20 Nov Fragmentation in the Market for Bank Assets
Posted at 06:11h in Uncategorized
Buyers and sellers of distressed European bank assets face a wider array of transaction barriers in comparison to financial securities traded on traditional markets. These distressed bank assets are non-strategic and non-core assets that do not contribute to going concern of a bank, and are assets that banks seek to divest in exchange for liquid, performing assets (cash or equivalents). Examples of such distressed, impaired bank assets include stakes in failing subsidiaries or associates, non-performing loans, idle real estate and other fixed assets (collateral).
The lack of liquidity in markets for distressed bank assets, and hence the persistence of these assets on bank balance sheets, have detrimental impacts on the economy by impeding credit growth and reducing economic activity . As such, divesting these assets would not only improve banks’ business models and their balance sheet compositions, but also provide significant benefits to the public given their magnitude. This is particularly relevant to European small and medium enterprises due to the greater reliance on loan financing in comparison to other parts of the world. Liberating these deteriorating assets from the balance sheets of European banks would emancipate capital and support the extension of new credit, stimulate the credit machine, and ultimately restore long-term growth of the European economies.
Given the systemic risks of impaired credit portfolios, lack of capital reserves, rising regulatory and operating costs, weakened profitability levels due to a low interest rate environment, the European economy would profit from having a secondary, central marketplace that can efficiently match the sale of distressed bank assets amongst buyers and sellers at the lowest cost within the shortest timeframe. This central market should be three-sided like the stock markets to include the active participation of brokers and transaction support service providers that can facilitate and optimize liquidity for distressed bank assets.
Currently there is no active, centralized secondary market for distressed European bank assets. The absence of a central mechanism, either in the form of a formal financial exchange or an informal over-the-counter (OTC) network, has instituted a high degree of market fragmentation and entrenched inefficiencies that cause wide bid-ask spreads to persist.
Although the European banking sector is still in an abnormal situation because it has not yet been fully capitalized by the monetary authorities since the financial crisis, a well-functioning market infrastructure can allow banks to clean up and capitalize their balance sheets through the private sector without taxpayer contributions even in normalized periods of economic expansion throughout the credit cycle.
Market participants seeking maximum liquidity and minimal transaction costs also face agency problems. Market fragmentation and wide bid-ask spreads serves only to benefit the welfare of brokers who seek to maximize profits rather than maximize market liquidity. Added to this is the broker commission structure, which creates transaction costs and further widens the bid-ask spread. Indeed, the current state of distressed bank asset sales is characterized by the lack of an efficient market that prevents sellers from being matched to the highest bidder in the global universe of potential buyers. The scarcity of market liquidity (due to market fragmentation) has led to 2 primary divestment options for sellers:
The first option is to use an intermediary who connects seller client to a limited network of buyers;
The second option, growing in popularity, is do-it-yourself (DIY) or publicly announced asset sales programs.
In both scenarios, sellers set up their online marketplace to solicit tender offers and indicative bids from the public. This solution, however, is characterized by significant search costs for buyers and is limited because of the inability of the public to discover these ad-hoc marketplaces.
Fragmentation and lack of transparency have allowed intermediaries to develop localized monopolies and strong bargaining powers that are detrimental to the liquidity of distressed bank assets and overall interest of the public. Supporting proactive banks that are seeking to shed assets to repair balance sheets would not only restore credit availability for households and businesses, but also prevent bank failures and insolvencies to preemptively reduce systemic risk.
As of yet, our team has identified over 20 DIY markets across Europe and is consolidating inventory across these public DIY markets into a central market under a unified due diligence scheme with standardized data templates to maximize buyer participation that would benefit sellers seeking the highest global bidders for their assets. Buyers no longer have to waste time searching for active sellers and normalizing data and can focus on negotiating and bidding for assets right away.