The coronavirus unleashed unprecedented economic turmoil across the globe last year, shutting entire industries almost overnight and threatening to render previously strong businesses insolvent. As corporates rushed to secure access to liquidity, BNP Paribas, the EU’s biggest lender, was seeing cash fly out the door at an unprecedented rate: in those few heady weeks between March and April 2020, the lender estimates €28 billion was drawn down from its revolving credit facilities.
That meant BNP’s credit portfolio management team had to move rapidly to contain capital consumption of its loan book, and de-risk the bank’s lending portfolio – not just for the sake of good portfolio management, but in order to keep the taps flowing to corporate Europe.
The CPM team delivered fresh savings of more than €6 billion in risk-weighted assets (RWAs) for the year as a whole, achieved through a mix of huge securitisation programmes, newly placed hedges, insurance and sold credit default swaps. This enabled the lender to keep its cumulative stock of RWA savings – including the benefit of pre-existing relief – constant at €25 billion. As of today, BNP has not had any Covid-related losses in its hedged portfolio.
In September alone, BNP achieved €3.5 billion in RWA savings. The bulk of this, €3 billion, came from the fifth iteration of its vast Resonance synthetic securitisation programme. In addition, it sold three batches of credit insurance on corporate loans, which combined resulted in €400 million of savings. It also selectively placed credit default swaps in September, which yielded €100 million in savings.
“In terms of performance, among our peer group, nobody has such a big size in terms of RWA savings during this period,” says Thomas Alamalhoda, head of portfolio management solutions at BNP.
That meant the bank was able to deliver a massive amount of funding to the market through the early stage of the crisis when its clients most needed it: BNP was the runaway leader in EMEA syndicated lending through the first half of the year, issuing more than €60 billion, double its largest competitor, giving it a 16.8% market share according to Dealogic. All the while, the CPM team was keeping its balance sheet contained through a combination of smart risk recycling and distributions through the primary markets.
Keeping the credit flowing wasn’t easy. The CPM team had to make sure borrowers had adequate funding to meet the massive drawdowns they were making, while trying to factor in the ameliorating impact of massive government loans, forbearance and stimulus programmes. In practice, that meant a vast, back to basics, bottom-up analysis of its borrowers’ balance sheets and cashflows – and a lot of sleepless nights, says Alamalhoda.
“We didn’t know how investors would react, and at what price we could deliver. We needed to combine these conditions to find the right solution to reassure them that our portfolio was doing well and had not deteriorated,” says Alamalhoda.
During the early days of the pandemic, the bank fielded dozens of calls from investors asking for details of its internal ratings changes and provisioning for borrowers in sectors that were hardest hit, such as retail and aviation. The bank was able to share forecasts garnered from its macroeconomic stress testing framework, as well as the results of sector-specific stress scenarios to project cashflows from loans made to those sectors.
There was daily monitoring of drawings, by client type and by sector, based on the same analytics used by the asset liability management function within the bank’s treasury, which was busily raising funds through deposits and other sources to support lending.
In terms of performance, among our peer group, nobody has such a big size in terms of RWA savings during this periodThomas Alamalhoda, BNP Paribas
Under the IFRS 9 accounting standard, banks are required to project lifetime expected losses on loans that have progressed from stage one (performing loans) to stage two (non-performing). BNP uses rating downgrades as the primary factor for moving loans from stage one to stage two, with ratings assigned based on a through-the-cycle approach.
However, even though its internal ratings are assigned based on a through-the-cycle approach, for the purpose of IFRS 9 provisions, the probability of default attached to the rating and used for the provision computation is point-in-time, as specified by the firm’s migration matrix.
Ordinarily, the cratering of GDP between quarters, as well as other macro indicators that factor into ratings decisions, would spell a mass downgrade of its loan book and a steep rise in provisioning – but like other banks, BNP decided not to automatically downgrade a borrower without considering the possibility of a structural recovery.
“We will downgrade only if we think on a structural basis this client is weaker in the coming years. When you analyse your portfolio that way, you will have fewer downgrades,” says Alamalhoda.
BNP credits its integrated capital markets platform, which it rolled out in 2019, with boosting its access to a broader sweep of investors, particularly among insurers and pension funds. The platform brings together the expertise of its sales teams with portfolio management, insurance and structured credit teams – a different model to many banks, says Alamalhoda, where portfolio managers, financial analysts and securitisation teams are often housed in separate organisations.
For Resonance, we knew that most significant risk transfer investors would look for yield – [and] that would not work for usAnh Berger-Luong, BNP Paribas
That translated into very real practical benefits last year, says Alamalhoda, when most of its employees found themselves working from home. For a deal that may take five to six months to put together, the ability to respond to investor requests quickly – demanding a specific concentration in an industry, or an analysis of Covid-impacted companies – thanks to having all the expertise under one roof, often meant the difference in getting to market, or not.
“When you have banks where securitisation is in the global markets side and the CPM is in the business lines, then time to react is much longer. Either you pay more, or can’t do the transaction. So it’s important to have an integrated model,” says Alamalhoda.
Buyers of the bank’s paper agree this integration does offer practical benefits: “Often banks are siloed in the way they think about risk distribution. They [BNP] have a much more collaborative approach, and are always looking at a broader thinking, quite deep into the markets,” says a reinsurance company executive.
Resonance V was a case in point: the transaction was an innovative structure with a hybrid reinsurance tranche, combining both cash and insurance components, which allowed the bank to price it keenly – and put it in front of the type of buyer that suited it. The deal, which enabled the bank to insure a second loss tranche on an €8 billion portfolio of loans, boasted an innovative structure, whereby the mezzanine tranche was split into funded and unfunded protection legs on a pari passu basis: a €324 million credit-linked note tied to a financial guarantee, targeting funded investors; and a €100 million insurance policy signed with underwriters, providing unfunded credit protection.
“For Resonance, we knew that most significant risk transfer investors would look for yield – [and] that would not work for us. We chose to partner with one of the big pension funds as an investor because they liked our platform, and had a long-term approach to the asset class and pricing,” says Anh Berger-Luong, co-head of the securitised products group for Europe, the Middle East and Africa at BNP.
When pricing an issue, the bank is upfront about the fact that it comes to market with a floor in mind: the return it makes – its net cost divided by the capital it unlocks – dictates the premium it will pay to investors. For credit insurance deals, it looks at the issuer’s ratings, LGD recovery rates and other criteria, computes the cost of capital for the facility, and prices the paper accordingly.
“For insurance solutions used for capital management, we are a price maker, not a price taker. A lot of our competitors go to the market, propose a portfolio and their investors give them a price – but that’s not how we work. We give them the price, they take it or not,” says Alamalhoda.
As the year drew to a close, on December 17, BNP closed a Covid-response synthetic securitisation, dubbed Proxima 2. The European Investment Bank guaranteed the mezzanine tranche, allowing the bank to redeploy regulatory capital and to finance up to €515 million of new loans to French SMEs and midcaps over the next two years.
In keeping with its long-standing house view, the bank used CDSs sparingly last year – though where it did, it did so profitably, insists Berger-Luong, paying a low premium relative to its cost of capital – hence it has a relatively small portfolio of roughly €600 million CDSs. Volatility and relatively expensive transaction costs are the two reasons for limiting the use of the product, says Berger-Luong.
“It’s not our favourite instrument, because of mark-to-market, and is less cost-effective compared to insurance, but when it’s smart to do it, we will do it.”
The bank’s mega RWA savings tally for the year would have been even higher, had it not been forced to pull an asset-backed securities deal involving BNP’s Italian subsidiary, BNL, when a change in the EU’s Capital Requirement Regulation made the deal economically unviable. Some would-be investors were left smarting – but the bank made clear it had little choice.
“The regulatory treatment of the underlying had changed due to this quick fix to CRR and we needed to unwind it, so there was less relief,” says Alamalhoda
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