Friday, June 17, 2011

US Bank Exposure to Greece, part 3

Tracy Alloway at the FT summarizes some of the push-back against the idea that US banks have substantial exposure to Greece:
Who’s selling Greek CDS, again

There appears to have been a massive amount of misunderstanding about recently published BIS statistics regarding US banks’ Greek exposures. The idea that US banks are on the hook for $32.7bn of CDS written on Greece was first expounded by the Street Light blog, then picked up by us (unfortunately), then spread to Fortune and onwards to markets. This week US bank stocks moved on the concern, apparently.

Anyway, the BIS statistics do not clearly lay out the amount of US banks’ Greek CDS exposure. Anyway, the BIS statistics do not clearly lay out the amount of US banks’ Greek CDS exposure...

If you want a summary version, here’s Nomura’s new banking analyst Glenn Schorr:

The U.S. banks and brokers sold off yesterday [Wednesday] over concerns around exposure to a potential Greek debt restructuring or default. The concern was driven by a BIS report published this month that shows that U.S. banks and brokers have written $32.7bn of credit guarantees (most likely CDS protection) on Greece. Unfortunately, this number is only half the story, as it shows gross protection written but does not show the net exposure of U.S. banks, meaning that any hedges or collateral that the U.S. banks may have in place is not being captured in this number. While there is definitely some Greek exposure in the U.S. system, we think net exposure at the large U.S. banks and brokers is a whole lot less than the $32.7bn.
While I agree that the BIS data does not tell us how much of the exposure is due to CDS contracts, I disagree that it can't be used to tell us the size of the US banking system's exposure to Greek debt. The whole point of the BIS statistics is to measure the ultimate risks that banks face, after all, and so they take great pains to ensure that the statistics reflect the net effective exposure faced by banks. As explained by the BIS in their guide to the international statistics (pdf):
The statistics mainly provide information on international financial claims of domestic bank head offices on a worldwide consolidated basis, ie including the exposures of own foreign offices but excluding inter-office positions. Currently they indicate the nature and extent of foreign claims of banks headquartered in 30 major financial centres. In contrast to the residence or balance of payments principle of the locational statistics, the reporting of consolidated positions offers a more useful measure of the total risk exposure of a reporting country’s banking system.

...Consolidated data based on the residence of the party ultimately responsible for the repayment of an obligation (ultimate risk basis) in addition to total claims based on the residence of the immediate borrower (contractual claims) are more compatible with information produced by banks’ own internal risk measurement systems and are considered a more appropriate measure of country risk exposure.
Regarding the specific question of whether the "guarantees" listed in the BIS data are net or gross exposures, the answer is more complicated than the one provided by the Nomura analyst above. This week I asked BIS for clarification on how they handle CDS data. The BIS has told me that when a bank writes a CDS contract selling default protection, the gross amount appears in the line "guarantees". So Schorr has that part of the story correct -- the guarantees are, in a sense, gross CDS exposures, because they are not offset by the protection purchased (if any) by the bank to hedge the risk it took by selling the protection.

However, that doesn't mean that the offsetting protection purchased by the bank is simply not counted. It will be counted either in the "derivatives contracts" line of the BIS statistics, or the "foreign claims" line of the BIS data. In either case, the protection purchased through ofsetting CDS contracts are counted in the BIS data, so that when you add together the direct + indirect exposures, you have netted out all countervailing CDS positions and have the final, true, net exposure faced by banks.

In other words, the BIS data does indeed represent true net exposure, and in the case of US banks that exposure is about $40 billion to Greece, on par with the exposure faced by banks in France and Germany. No, we don't know exactly how much of that takes the form of CDS contracts, but we do know that the exposure is there.


  1. Anonymous5:10 PM

    You are still getting this wrong. First, the derivatives part only includes the positive fair value of derivative contracts. Not the face value. Second, unless you are covering your own position (say holding a greek sovereign bond). A bank's net notional cds position will not be counted in the bis statistics. You would only have the credit protection sold (guarantees) and the positive fair value of the credit protection bought, but not the face value of the credit protection bought.

  2. <p><span>From the "</span><span>Guide to the consolidated banking statistics". <span> </span></span>
    </p><p><span>"</span><span>As with the locational statistics, financial  claims should generally be reported on a GROSS </span><span>basis............</span><span> Financial claims resulting from </span><span>derivative contracts should be netted only for those contracts that are with the same </span><span>counterparty  and that are covered under a legally enforceable netting agreement. For all </span><span>other derivative contracts, the GROSS positive fair values must be reported. Negative market </span><span>values of derivative contracts are considered to represent financial liabilities and are </span><span>therefore excluded by definition from the reporting of financial claims."</span>

  3. <span>Also from "Highlights of the BIS international statistics"   
    "For example, the BIS consolidated banking statistics CAN BE USED to answer a question such as:   
    What are the exposures of banks headquartered in country X to country Y?   
    However, they CANNOT BE USED to answer a question such as:   
    How much would banks headquartered in country X lose in the event of a sovereign   
    restructuring in country Y?" </span>

  4. Anonymous12:45 PM

    Guest, in the end of the day, the fair values of the CDS written and purchased an entity reflect, or are a function of the notional value (exposure) of the contracts. Are you saying that net amount given by BIS does or does not represent the true net potential loss in the event default/restructuring of the underlying bonds?

  5. Guest8:57 PM

    Let's assume bank x does not have any direct exposure to the sovereign of country y. It sold cds with face value of $100 (at a premium of 100) with country y as the reference entity to a german bank. It also bought cds with a face value of $100 with the same German bank at a premium of 100. Suppose the premium goes up to 105. What this bank is going to report to the bis is the $100 of credit protection sold in guarantees vis-a-vis country y and the positive fair value of credit protection bought in the derivatives item vis-a-vis germany (note, the claim is not the face value of the credit protection bought, just the positive fair value, that is, it accounts for the counterparty credit risk). Thus, in this case the net notional amount of the cds transaction is not reported, just the gross protection sold and the positive fair value. Hope this clarifies your question.

  6. Anonymous1:58 PM

    seems like people are finally beginning to realize how wrong the original report was

  7. Anonymous2:04 PM

    i think people are finally getting it right, and guess what, with that number, it actually matches reasonably with DTCC data.  If gross amount is 78 billion on greece, it is easy to see that banks could have a 50% market share and have bought AND sold 40 billion of CDS on Greece, so minimal NET exposure, but a BIS reported Guarantee exposure.

    I hope a lot of people didn't lose too much money listening to the original, totally wrong claim of how much naked exposure u.s banks had

  8. Anonymous2:39 PM

    Bernanke just pointed out the flaw in BIS data, Kash, please apologize for sending out such incorrect information and defending it

  9. Anonymous2:46 PM

    Bernanke during his Q&A just said the BIS data was not helpful in determining exposure to Greece because the data doesn't reflect hedges!  You were correct, as were others who disagreed with the original post and its various attempts to repost and claim it is correct.

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