Pressure on banks

For example, UBS (NYSE:UBS), one of the best capitalised banks in the sector, suffered a 170 basis point fall in its Tier 1 ratio to 10.6 per cent in the third quarter. Its third quarter loss accounts for only 20 basis points of that decline while an increase in risk-weighted assets explains another 40 basis points. Share buybacks and dividends, a desirable though discretionary feature, contributed another 80 basis points, with the remainder mainly due to foreign exchange movements.

UBS and others, such as Citigroup and Merrill Lynch, which suffered heavy writedowns in the third quarter, could face more of the same. Rating downgrades are likely to add to the pain, by forcing sales at markdowns or requiring more capital to be held against these weakened assets. Standard and Poor's has so far downgraded just $47bn of the $1,000bn of subprime CDOs it has rated since 2005, for example.

Even if there is no bounce in markets, in some areas, some pressure on capital may subside. The damage from leveraged loans should be limited. Options such as reducing risk and selling non-core assets give most banks room for manoeuvre although profitability may be hurt and the scope for dividends and share buybacks reduced. But a few of those with continuing exposure to structured credit could be faced with trying to raise fresh equity. Given the uncertainty about structured finance pricing, that could prove tricky.