Comment on the annual UK stress tests

Rob James, financials analyst and co-manager of the Old Mutual Financials Contingent Capital Fund

The annual results of the UK stress test on the banking system have been released today. This year’s test was the toughest so far: UK GDP down by 4.7% (4.3% in last year’s test), UK house prices fall by 33% (31% last time) and losses across the banks tested amount to £50bn (£44bn last time)

To put those losses into perspective, in last year’s results, when losses were £44bn, the Bank of England cited the number as five times greater than that incurred by the same banks during the global financial crisis. So pretty stressful.

What is deeply reassuring about this year’s test, despite all the above, is that every bank passed. So in answer to that perennial question, “Are we nearly there yet?” this time the response is a resounding, “yes”.

The implication is that our banking system can now absorb catastrophic losses, including the continuation of litigation and conduct fines, and still be in a position to supply credit to the economy during the stress.

Of course, all this extra security in the system comes at a cost. Banks are now far less leveraged than they were in the past and their returns are now far lower than they were. But those same returns should be much less volatile, which makes the dividend paying capacity of the system high. So, as investors, we can once again look forward to high dividends from these stocks, something we have not seen for quite some time.