Foreign banks face $475 billion subprime losses

Although banks such as UBS have reported massive subprime-related writedowns in the early stages of the mortgage crisis, European banks are not over-represented in the subprime market, according to research published by the US Federal Reserve.

Three researchers at the Fed's international finance division in Washington, DC found foreign investors held $1.2 trillion in securities backed by US-issued assets. Once US exposure to foreign assets was netted out, net foreign exposure to US asset-backed securities (ABS) was $800 billion. Their results are available from the Federal Reserve in the discussion paper Foreign exposure to asset-backed securities of US origin by Daniel Beltran, Laurie Pounder and Charles Thomas.

The researchers warned looking at mark-to-market losses would overstate the size of long-term or "ultimate" losses. In the long run, assuming 20% default rates and 50% recovery, foreign investors would suffer $65 billion losses on US mortgage ABS and another $10 billion on other ABS, such as credit card and auto loan ABS, which are expected to default less frequently.

But the lack of liquidity and transparency meant mark-to-market losses could be far higher - as much as $475 billion, the researchers estimated. The difference was also explained by the fact that mark-to-market losses ignore the repackaging and resale of US ABS by foreign banks - thus reducing their ultimate loss. In fact, foreign investors hold a net share of 29% of non-conforming US residential mortgages - in line with their holdings of other asset classes such as bonds and Treasury securities.

See also: Deutsche succumbs to crisis with €141m Q1 loss
UBS report lists failures in risk management 
Bank writedowns - is the worst over?
Credit Suisse reveals $2.85bn subprime credit writedown