European bank stress test results: A systemic positive, despite the oversights

- "We were biased to being long risk going into the tests: expectations were low, worst-case capital holes could, in our view, be filled within the scope of existing facilities, transparency would be a major positive, and weak banks would be forced to recapitalize. We believe the tests fell short in many respects, but we nevertheless have a positive view of the outcome. On the one hand, the tests exceeded expectations concerning disclosure of sovereign bond holdings. The majority of banks should be able to fund more cheaply. On the other hand, the tests were not stringent enough. Investors will perceive the banks that barely passed to be
undercapitalized; we expect poor spread performance from those names and they are likely to continue to face high funding costs."
- "In our view, the positives (creation of transparency) outweighs the negatives (too little forced capitalization). The majority of European financial risk in credit indices has been issued by banks that cleared the tests by a wide margin, where capitalization is not a concern, and where transparency is a key positive. The risk to our view is that, while systemic fears are likely to subside, the soft-handedness of the stress tests are likely to leave concerns over the capitalisation of some specific institutions – and that these idiosyncratic problems become so large that they overwhelm the systemic benefits."
Barclays Credit Research 20100726