Published September 1, 2008
breakingviews.com
Dangerous times for bank debt refinancing
By GEORGE HAY

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DEBT refinancing is the next big challenge for the world's banks. After being mauled by sub-prime-related losses and tortuous capital raisings, financial institutions must renew an increasing proportion of their own funding, and at a much greater cost.
This refinancing challenge is another legacy of the credit boom. When times were easy, in 2006, banks shortened the maturity and increased the volume of their floating rate notes, which pay a fixed premium to the Libor interbank rate. That exuberance leaves US$871 billion of long-term debt to refinance by the end of 2009, according to JPMorgan.
If the rollovers came in May, it would not have been so bad. Then the spread on credit default swaps (CDS) for financial institutions on the Itraxx index had fallen from 130 basis points in March to 54 bps.
With economies stumbling and house prices still falling, the spread has climbed back above 90 bps.
The refinancing schedule seems to be influencing the CDS spreads of individual banks.
Take Unicredit. Over the last year, the Italian bank's spread has widened by 113 per cent - not too bad a performance in a dismal credit market. But almost half of that widening has come in the last month, perhaps in recognition that it has to roll over US$6 billion of floating rate notes (FRN) by Sept 12. In contrast, Barclays has no FRNs to roll over before December. Its CDS spread has widened a modest 14 per cent in the last month.
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Refinancing uncertainty may have contributed to wider spreads at the brokers - up 60 per cent in the last three months at both Merrill Lynch and Goldman Sachs.
In a deleveraging financial world, rolling over debt is no longer necessarily a routine operation, even for solid institutions. But once the banks and brokers find the new money, they have to deal with the consequences.
The highly leveraged balance sheets of financial institutions multiply the effect of higher funding costs.
All things being equal, an extra 30 bps on interest rate paid translates into something like two percentage points lower return on equity.