US and European banks preparing for distressed credit cycle


Recent stress to global oil and gas portfolios has analysts worldwide revising credit risk assessments — and banks scrambling to shore up loss reserves. After news that JPMorgan Chase had begun moving to build first quarter reserves for loan losses by roughly 60 percent — nearly $500 million — UBS analysts revealed that anywhere between 250 billion to 300 billion Euros worth of bank loans were on the edge of default due to the “current credit cycle.”

“European banks are seen as less exposed to distressed debt than those in the U.S.”

“When the biggest bank increases reserves for potential oil losses it sets a tone for the industry,” said Mike Mayo, an analyst at CLSA to the Financial Times. With oil currently at $25 a barrel, the bank claims it is simply stress-testing the portfolio to ensure that another drop in price will not prove cataclysmic. Yet long-term low prices could still be dangerous, with another 18 months of $25 a barrel requiring an additional $1.5 billion in reserves.

European banks are seen as less exposed to distressed debt than those in the U.S., according to UBS. Default rates in the speculative-grade natural resource sector have already been rising domestically, up 6.8 percent from six months ago to a total of 12.2 percent. With an estimated $1 trillion in speculative-grade debt facing a “high risk” of default, banks are carefully eyeing possible weaknesses in their portfolios including junk bonds, leveraged loans, credit lines and private debt securities.

Ironically, while banks worldwide are sweating over the possible economic downturn brought by inexpensive oil, consumers have been declared the “huge winner” by Jamie Dimon, chairman and chief executive of JPMorgan Chase. He reports that for the most part consumers have not felt the negative effects of lower prices and instead have resulted in lower credit card charge-offs.

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