Magazine article American Banker

Contingent Liabilities: An Unseen Risk: Wells Chairman Urges Increased Capital to Safeguard Off-Balance-Sheet Dealings

Magazine article American Banker

Contingent Liabilities: An Unseen Risk: Wells Chairman Urges Increased Capital to Safeguard Off-Balance-Sheet Dealings

Article excerpt

SAN FRANCISCO -- The strengthenting of bank capital ratios may be more apparent than real, Wells Fargo Bank chairman Carl Reichardt said recently, urging banks to take the lead and again increase their own capital ratios to balance off risky business ventures.

Because contingent liabilities are usually not placed on bank balance sheets, conventional accounting procedures may not give an accurate picture of a bank's condition, Mr. Reichardt told a finance and accounting conference, hosted here late last month by the Bank Administration Institute.

Mr. Reichardt noted that in recent years there has been a significant increase in such off-balance-sheet arrangements as standby letters of credit, note issuance facilities, interest rate swaps, and loan sales with recourse.

Use of only limited disclosure is akin to the tale of the emperor and his new clothes: "Now you see it, now you don't," said Mr. Reichardt. The Wells Fargo chairman warned that it is in the banking industry's best interest to put its house in order. Already, regulatory authorities are considering the possibility of handing down new rules.

Noting that depositors may be quick to withdraw funds from troubled institutions, Mr. Reichardt said, "Any perceived weakness in a financial institution can have rapid and serious consequences -- as Continental Illinois and the Ohio thrift industry showed us."

While noting that the Comptroller of the Currency and the Federal Deposit Insurance Corp. recently raised their minimum primary capital-to-assets ratio to 5-1/2% from 5%, Mr. Reichardt said that the two regulatory agencies have given due warning that they are considering the imposition of even higher capital requirements on banks with riskier portfolios.

"The two agencies said that banks with low liquidity or high levels of risk -- including standby letters of credit and other off-balance-sheet risks -- will have to hold more capital against assets than other banks," he said.

Mr. Reichardt called the implementation of higher standards "inevitable."

"It's just not politically acceptable or sound for the regulators to allow any more shocks to public confidence like we had last year when Continental Illinois nearly went tapioca.

Note Issuance Facilities

Mr. Reichardt pointed out that note issuance facilities -- also known as revolving underwriting facilities, note purchase facilities, or Euronote facilities -- are increasingly replacing conventional syndicated loans.

As an example of how they operate, he cited how banks might help raise $500 million for a particular country by selling the country's short-term paper to other banks. If they cannot raise enough money this way, they agree to provide the cash to the country themselves.

According to Mr. Reichardt, the lending banks are, in effect, guaranteed that they will be repaid, and the deal-making banks get a nice underwriting fee without, they hope, the need to fund their commitment.

But Mr. Reichardt warned that if the borrower's creditworthiness deteriorates or if the note market turns sour, the underwriting banks would be obliged to substantially increase their assets to meet regulators' concerns. …

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