Comment from David Absolon, Investment Director at Heartwood Investment Management, on how the results of the ECB stress tests are a necessary step in restoring confidence and increasing transparency within Europe’s banking sector.
"The results of the European Central Bank’s (ECB) stress tests were fairly uneventful – much to the market’s relief. More rigorous and credible than the ECB’s previous tests in 2011, the latest review was intended to harmonise standards in valuing assets on European financials’ balance sheets, and assess the ability of those balance sheets to withstand economic turbulence.
"We can always point to shortcomings, but overall we think the outcome of these tests are a necessary step in restoring confidence and increasing transparency within Europe’s banking sector. A healthy and vibrant banking sector is essential for the Eurozone’s growth prospects, helping to stimulate bank lending and boost investment. Furthermore, a stronger banking system should help to remove any potential tail risk in markets and support investor confidence. Importantly, no large institution with a systemic influence failed the latest ECB test. Indeed, the significant actions taken by banks to recapitalise, show how lessons have been learned from the past to avoid a Japan-style scenario of “zombie” banks unable to rid themselves of non-performing loans.
"Media commentary has focused on the impact on banks’ share prices. However, just as important, we believe that these are positive developments from a bondholder’s perspective. A stronger regulatory environment ensures that bank deleveraging continues and that should mean more conservative balance sheets – music to a bondholder’s ears.
"We have held a cautious view on fixed income markets this year, but our highest conviction has been in the financial debt markets, where we can attain significant spread pickup relative to government bonds and other credit markets. We continue to believe this theme has more room to play out, and we are executing our view through a global, subordinated financial debt-focused manager, which we believe represents the best risk-adjusted approach."