Applying A Basel III Tier 1 Stress Test Threshold Implies E2.6 Trillion Of Assets In 39 Banks Impaired By Equity Undercapitalization

With the assumptions and conditions for the stress test pulled straight out of CEBS' collective bottom, it is no surprise that a mere 7 banks for a total $246 billion in affected assets end up being defined as undercapitalized. But what happens when instead of using a 6% Tier 1 capital threshold, a Basel III 8% Tier 1 is used? Something log scale worse. As Austrian Der Standart journalist Lukas Sustala points out, and as demonstrated on his chart below, the failure rate goes up exponentially: instead of 7 banks failing, 39 of Europe's biggest banks would be undercapitalized, and the impaired assets would amount to a whopping E2.6 trillion, requiring at least E30 billion in incremental equity capital, on top of the hundreds of billions already infused by European governments. In Lukas' words: "The stress tests were a farce (taking no account of counterparty risk or a sovereign default), but at least they provide some good data points (I currently look into all the sovereign holdings of the individual banks, so there is more to come). 39 banks fail the 8% criteria."

And for those who just can't get enough of peeking at the imaginary numbers behind the farce theater's curtain, here is Goldman's most recent essay in which they attempt to validate why they were so blatantly wrong (i.e., pessimistic) on the Stress Test's outcome last week.