RPT-Fitch: BoE Revised Tool Enhances Liquidity Framework

Tue Jan 21, 2014 5:20am EST

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Jan 21 (Reuters) - (The following statement was released by the rating agency)

The Bank of England a€™s new indexed long-term repo (ILTR) operations detailed at the end of last week will enhance the banking systema€™s liquidity framework for the sector, Fitch Ratings says. We would not therefore view the release of excess on-balance sheet liquid assets by banks a€“ which we expect to follow a€“ as a negative rating driver.

We had already expected a number of banks to reduce their high on-balance-sheet core liquid buffers in 2014 following the relaxation of regulatory requirements last year. The Prudential Regulation Authority (PRA) estimated that banks had excess liquidity buffers of around GBP90bn in August 2013. The ILTR may give banks greater confidence to stop hoarding excess liquid assets.

We believe the reduction in overall liquid assets will be mild overall. Consumer confidence is rising, together with easier availability of funding and improving economic conditions. But growth in lending volumes will be constrained at a number of banks by both risk-weighted and non-risk-based capital. This will be especially the case with the BoEa€™s minimum 3% Tier 1 leverage ratio in place from 1 January 2014, and the PRAa€™s focus on regulatory ratios after adjustments for asset quality, risk weights and conduct costs. We believe credit supply will continue to be more likely in low-risk assets such as mortgages with low loan-to-value ratios.

It is possible, on the other hand, that banks release excess liquid assets by shrinking deposits and funding, as they optimise their capital and liquidity. In such a case, profitability may benefit from a decline in funding costs. We expect UK banksa€™ balance sheets to continue to shift; and where and how business and debt are booked, to continue to evolve as they adjust to final regulations and prepare for ring-fencing.

The revamped ILTR will accept a broader range of collateral a€“ including less liquid securitisations, own-name securities and portfolios of loans a€“ and could be offered for longer maturities, although six-months will be the norm. It is part of the enhancements to the Sterling Monetary Framework to provide better liquidity support for the UK banking system by reducing the stigma and cost of accessing BoE liquidity. This brings liquidity insurance in the UK more into line with the support that EU banks receive from the European Central Bank.

The ILTR will launch on 11 February. We agree with the BoE that usage is likely to be low since UK banks currently hold large liquidity buffers, but some banks may choose to test the facility. The BoE has also provided details on the contingent term repo facility, although there is no need to deploy it at present.

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