Australian bank reputation suffers badly

National Australia Bank (NAB), one of the four big Australian banks, was sucked into the vortex of the "perfect storm" of the American banking industry, losing over 13% of its share value in one day.

NAB has a chequed history: it had said that it would only invest into English-speaking countries with a future, such as Ireland and USA; it made mistakes in daily processing and overcharged its customers; its rogue forex traders have costed the bank AU$360 millions; the litany of Australian incompetence goes on. As NAB's CEO said, it took a heavy tool on the bank's reputation. And so it should.

QUOTE:

NAB in dire US warning

Ruth Williams and Ari Sharp

July 26, 2008

NATIONAL Australia Bank has shocked investors by saying it may lose as much as 90% of the value of its US mortgage-backed investments - worth more than $1 billion - and warning that the battered US housing market is poised to deteriorate further.

In a horror day, the bank's shares closed down an extraordinary 13.5%; it confirmed its earnings would be hit by almost $600 million; and it faced criticism over conducting an $850 million bond issue the week before the announcement.

"We believe on the basis of detailed analysis that significant loss is now inevitable, and a worse-case provision necessary," NAB chief executive John Stewart said.

NAB made a provision for as much as 90% of the value of its portfolio of collateralised debt instruments (CDOs), most of which were derived from US mortgages and rated AAA. NAB had already flagged $181 million in losses, increasing this yesterday by $830 million to $1.011 billion.

NAB still holds a $4.5 billion debt portfolio of mostly European and US corporate loans. Mr Stewart said NAB's capital base remained sound, and its rural US subsidiary, Great Western, had only a small mortgage portfolio and was performing as expected.

NAB may be the first bank in the world to almost completely mark down the value of its US mortgage-backed CDOs. "I'm not aware of any major bank organisation in the world that has (made a provision for its) CDOs to 10%," said Peter Quinton, head of research at Bell Potter Securities. "This could have some ricochet globally."

Just $360 million of the CDOs were connected to subprime mortgages - demonstrating that US mortgage depression is spreading into the mainstream market.

Mr Stewart said the bank had decided to make a provision for almost all the investments at once rather than "drip-feed" them out. NAB's recent withdrawals from negotiations to buy the Australian operations of Citi and UBS were not connected to the provisions, he said, except that both were the result of deteriorating market conditions. He would not comment on reports that NAB was interested in buying HBOS-owned BankWest.

"What we know now is that we're not at the bottom, and I'm not sure whether this is a clever time to be making acquisitions," he said.

NAB's announcement came after a shocking Thursday night on Wall Street, when US financial shares suffered their biggest fall in eight years after house sales dropped and high-profile bond investor Bill Gross warned that $5 trillion of mortgage loans - almost half the home loans in the US - belonged to "risky asset categories".

Mr Stewart was equally pessimistic, saying there were more than 10 million US houses sitting vacant, and some homes were selling for less than half their mortgaged value.

Other banks scrambled to clarify their exposure to the US mortgage market. ANZ did not update the market, but a spokesman said its position had not materially changed since its half-year result in May when it made a $226 million provision for its exposure to a US monoline insurer from which it had purchased credit. In November, ANZ said its total exposure to CDOs was just $5.5 million.

CBA said it had a $1.4 billion exposure to two asset-backed commercial paper conduits, but played down the risks , saying they were "highly rated assets".

Westpac said its CDO portfolio was small and of "high quality".

Other NAB debacles - including the forex scandal and the US HomeSide write-downs - took a significant toll on NAB's reputation, but Mr Stewart denied the CDO provisions would have the same impact.

NAB emphasised that the CDOs had been AAA rated, and had passed all the bank's internal risk checks. "AAA means they have a one in 10,000 chance of default," Mr Stewart said. "If we wouldn't invest in AAA assets we wouldn't lend to any companies in Australia."

But Mr Stewart said it was clear that the rating agencies that had assigned the CDOs AAA status had "let the whole industry down". "(They) didn't do a thorough job," Mr Stewart said.

Somewhat ironically, rating agency Standard & Poor's yesterday downgraded its AAA outlook on NAB to negative from stable.

"Apart from emphasising the potential for higher-credit costs, the announcement highlights that NAB may face challenges in predicting future credit losses, " said S & P credit analyst Sharad Jain.

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