One milestone, three millstones
Royal Bank of Scotland is about to achieve a milestone. Chief Executive Stephen Hester’s five-year plan to remove the bank from intensive care by shrinking its balance sheet is entering its final phase. Better still, the UK group’s first quarter results held up despite it performing open-heart surgery on its battered investment banking arm. But while RBS is heading the right way, it remains in a state headlock.
All told, RBS made a 1.4 billion pound net loss in the first quarter. But this was largely due to a 2.5 billion pound accounting charge for narrowing spreads on its own debt. Elsewhere there were positives. Returns in RBS’s core bank – the bit left over after it sheds all its unwanted assets – now almost exceed its cost of equity, despite the drag of loss-making Ulster bank.
But the best bit of news is that RBS will soon have paid off all 75 billion pounds in emergency long-term liquidity it borrowed from the UK government in 2008. That’s mostly due to its progress cutting a 258 billion pound heap of non-core assets to its current 83 billion pounds, which in turn has allowed the bank’s short-term funding to shrink from almost 300 billion pounds in 2008 to 80 billion pounds.
Yet RBS still faces a triple state grip. First is the government’s asset insurance backstop, which helps boost RBS’s core Tier 1 capital ratio by about 0.8 percentage points. Second is a rule imposed as a result of the 2008 bailout that obliges the bank to hand the UK 1.8 billion pounds if it ever restarts dividend payments. Finally, the government still owns 82 percent of RBS’s equity.
Unpicking these locks won’t be easy. Private investors who might be interested in the shares will want a dividend, which means convincing the government and European Commission to waive or water down the dividend blocker. Even then, with RBS’s core Tier 1 ratio at around 9 percent without state insurance and on a Basel III basis, the UK regulator may still prevent the bank from paying dividends, or force it to keep holding billions of pounds of expensive contingent capital. Escape from the government’s grasp still looks years off.