OREANDA-NEWS. On 14 October, Dutch bank Rabobank Nederland (Rabobank, Aa2/Aa2 stable, a2) (1) confirmed the authenticity of a local media report on its leaked strategic framework for 2016-20. The plan suggests reducing assets by €100-€150 billion in the five-year period in anticipation of developing Basel IV capital regulations, which propose changes in the calculation of a bank’s regulatory riskweight (2). Rabobank’s plan, which has been circulated among the local member banks of the Rabobank Group, is credit positive because it will ultimately strengthen the banking group’s capitalisation.
 

The €100-€150 billion asset reduction in the strategic report equals 15%-22% of current total assets. Such a significant reduction will probably necessitate the sale or run-off of some businesses. For instance, we believe that significant parts of Rabobank’s future loan origination may be sold to external investors. A strategic shift toward an originate-to-distribute model is likely for certain parts of the portfolio. Increased capital, or decreased leverage, is credit positive in itself, even though regulatory capital ratios will appear lower because of the new rules. We believe that Rabobank’s regulatory capital ratios will remain at the high end among European peers as a result of its decisive actions, despite pressure from increased risk weights.

The strategic report illustrates the intense debate surrounding the new Basel IV regulation proposal in Europe. Although the final Basel IV standards are likely to vary from the consultative draft, the draft proposal suggests a broad increase of capital requirements, particularly for mortgage portfolios. Rabobank, like other European banks, keeps its mortgage portfolio on its balance sheet. Under the new standardised approach, mortgage loans would receive risk weightsof between 25% and 100%, up from the current uniform 35%, depending on loan-to-value ratios (3).

Although large banks such as Rabobank mainly use the internal ratings-based (IRB) approach for calculating risk-weighted assets (RWAs), the Basel IV consultative document proposes using the new standardised method as a floor for the IRB method. Based on a 25% risk-weight for residential mortgages, we estimate that Rabobank’s tangible common equity to RWA ratio of 16.6% at 30 June 2015 would decrease by 181 basis points. Nonetheless, although 25% is the minimum boundary of the 25%-100% proposed range, which might make the final outcome more punitive for Rabobank depending on loan-to-value ratios, we believe that the outcome remains uncertain and that the final standards may be less constraining.

Rabobank will be particularly affected by the new rules because its residential mortgage loan book is 47% of its private-sector loan portfolio. This is comparable to Dutch peers ING Bank N.V. (A1/A1 stable, baa1), where mortgage loans comprise 52% of ING’s private-sector loan portfolio, and ABN AMRO Bank N.V. (A2/A2 stable, baa2), where it is 54%. Additionally, the IRB-advanced method that is the current standard for calculating RWAs on these loans often yields very low risk weights for mortgages. Rabobank reported a mortgage loan book of €204 billion at the end of June 2015, on which average risk weights were only 12%.

(1) The bank ratings shown in this report are the bank’s deposit rating, senior unsecured debt rating and baseline credit assessment.
(2) The consultative document of the Basel Committee for Banking Supervision, called Revisions to the Standardised Approach for credit risk and published in December 2014,
proposes changes in the calculation of regulatory risk weights.
(3) Under the proposal, the property value in the calculation of loan-to-value ratios would be kept constant at the value calculated at origination in order to avoid procyclicality of housing prices.