HBOS: Recession Bites
This is what struck me from today's announcements by Lloyds TSB and HBOS on how they are trading and on Lloyds' planned takeover of HBOS.
1) HBOS is reaping a bitter harvest from having piled into lending to property and housebuilding businesses. Its corporate lending impairment charge (a charge for loans that are going bad) has risen by £1.3bn in just the three month to September 30 and is £1.72bn for the first nine months of the year.
2) The charge for mortgages that are going bad remains quite low at £440m for the first nine months of the year. However the trend is distinctly worrying, since the charge for the past three months of £227m is more than the charge for the whole of the first six months of 2008. The biggest contributor to this rise in the impairment charge has been the fall in house price prices (as and when the value of security backing a loan falls, banks are forced to take a charge). The value of impaired mortgages rose 9.4% to £5.1bn, equivalent to 2.4% of the value of its mortgage book.
3) So HBOS is beginning to suffer from the inevitable difficulties that borrowers face when the economy shrinks (what follows is fairly technical. So those who bore easily may want to jump straight to point 5). The only bit of good news is that these rising losses on conventional loans probably come as losses on subprime and other ostensibly tradeable debt-securities may have reached a peak. Those losses due to "market dislocation" were £1.8bn for the first nine months of the year, with just over £700m being incurred in the last three months. They included £457m of losses on exposure to the two bashed-up US banks, Lehman and Washington Mutual. And there's a £150m charge relating to credit extended to Icelandic banks.
4) Another reason why time has been called on massive losses on notionally tradeable debt-securities is that accounting changes mean that banks can now assess in a more conventional way the realistic prospect of borrowers repaying debts, and take charges accordingly, rather than taking the whacking loss implied by the fall in the market price of these investments.
5) There has been a 50% rise to more than £1.5bn in Lloyds TSB's estimate of the cost savings it can make from buying HBOS. That's good news for holders of Lloyds TSB and HBOS shares, since it means bigger dividends in years to come. However it will be profoundly worrying for the 140,000 employees of the two banks, because it implies there could be job losses of perhaps 20,000.
6) Lloyds TSB says it has been told by the Treasury that it will be a "value investor" in the enlarged group (you'll remember that the Treasury has agreed to inject £17bn of new capital from taxpayers into the two banks). That implies the Treasury as a shareholder will neither interfere very significantly with the way that Lloyds lends (as some investors have feared), nor place restrictions on the cost cutting and job reductions planned by the bank.
7) The Treasury has bent over backwards to reassure Lloyds TSB's and HBOS's existing shareholders that they won't be spanked too severely for needing to take capital from taxpayers. In particular, the Treasury has "indicated its encouragement" for Lloyds TSB to redeem as soon as 2009 all of the £4bn of preference shares being bought by taxpayers. What would that mean? Well, Lloyds TSB would be able to resume paying dividends in cash to its shareholders as soon as next year (and see my note, "Bank dividends" of October 15).
8) The assurances Lloyds has won from the Treasury about its commercial freedom and ability to pay dividends may further upset shareholders in Barclays, some of whom feel that Barclays' horror of taking money from British taxpayers prompted it to raise capital on terms that are too expensive from the royal families and state funds of Qatar and Abu Dhabi.
9) The momentum behind the takeover of HBOS by Lloyds TSB looks unstoppable. The top jobs have been divvied up (most of them going to Lloyds executives, as you'd expect in a takeover). Peter Mandelson, the business secretary, has given his approval. And there's a formal timetable for shareholder votes on the deal. The unnamed overseas bank that is allegedly mulling a rival offer for HBOS needs to pluck up the courage to reveal itself if it's to have even the faintest change of frustrating Lloyds (that it hasn't even disclosed its identity to HBOS perhaps suggests that it's more spectator than potential bidder).