The University of Southampton
2011/12

Faculty of Business and Law
School of Management

MSc. Dissertation

The determinants for banks to securitise assets; the comparisons between UK securitising banks and non-securitising banks in general and between Northern Rock bank and Lloyds TSB bank in particular

Huyen Thanh Do
Student ID number: 25145517
Presented for MSc. International Banking and Financial Studies

I declare that this dissertation is entirely my original work where material is obtained from published or unpublished works; this has been fully acknowledged by citation in the main text and inclusion in the reference list

Word Count: 14,650 words

ABSTRACT
This thesis analyses the main reason why banks securitise their loans including bank liquidity, credit risk transfer, regulatory capital arbitrage and bank performance in a comparison between UK securitising bank and non-securitising banks during the period from 2000 to 2010, and analysing a case study of Northern Rock bank, a fifth biggest volume securitising bank

in

the

UK

from

2001

to

2007

(Goldsmith-

Pinkham and Yorulmazer, 2010) with Lloyds TSB, a stable bank with less securitisation. First, this dissertation will contribute to major literature on the securitisation background and determinants of securitisation. Next, the data, methodology and four groups of variables contributing to bank‟s securitisation decisions, namely liquidity needs, credit risk transfer, regulatory capital arbitrage and efficiency will be described using a logistic regression model adopting from Cardone-Riportella et al. (2010). Finally, the comparisons between securitising banks and non-securitising banks in general and between Northern Rock and Lloyds TSB in particular are analysed based on four above proxies.

The empirical results in this study demonstrate that the needs for liquidity and regulatory capital arbitrage are the most important drivers for UK banks to securitise their assets. It is shown that securitisation of Northern
Rock Bank has been significantly driven by liquidity reason when its liquidity variables are much higher than that of Lloyds TSB Bank.

i

ACKNOWLEDGEMENTS
I would like to thank my supervisor Professor Simon Wolfe for his constant support throughout the process of writing this dissertation.

I would like to thank my parents, Mr. Do Dang Binh, Mrs. Kieu Thi Hong, my brother Do Xuan Duong, my sister in law Pham Thi Hong Van for their valuable support physically and mentally during one year I was studying in the UK.

I would like to thank my friends, Mr. Andy Buchanan, Ms. Tran Thi Hien,
Mr. Nguyen Quang Ngoc, Mr. Tran Trung Hieu, Mr. Tran Tien Dung and other people for helping me run the model, edit and proof-read my dissertation. ii

Table of Contents
LIST OF ABREVIATIONS ......................................................................................................v
LIST OF FIGURES ...............................................................................................................vi
LIST OF TABLES ............................................................................................................... viii
CHAPTER 1: INTRODUCTION ............................................................................................ 1
1.1. Motivations .......................................................................................................... 1
1.2. Objectives ............................................................................................................ 2
1.3. Structure .............................................................................................................. 3
CHAPTER 2: LITERATURE REVIEWS ................................................................................... 4
2.1. Overview of securitisation ................................................................................. 4
2.1.1. Definition ...................................................................................................... 4
2.1.2. Process......................................................................................................... 5
2.1.3. Overview of securitisation market ............................................................ 6
2.1.3.1. The development of global securitisation market ........................... 7
2.1.3.2. The development of UK securitisation market ................................ 8
2.2. Determinants of securitisation .......................................................................... 9
2.2.1. Liquidity ........................................................................................................ 9
2.2.1.1. Hypotheses........................................................................................... 9
2.2.1.2. Empirical studies................................................................................ 11
2.2.2. Credit risk transfer .................................................................................... 12
2.2.2.1. Hypotheses......................................................................................... 12
2.2.2.2. Empirical studies................................................................................ 15
2.2.3. Regulatory capital arbitrage .................................................................... 16
2.2.3.1. Hypotheses......................................................................................... 16
2.2.3.2. Empirical studies................................................................................ 19
2.2.4. Performance improvement ...................................................................... 21
2.2.4.1. Hypotheses......................................................................................... 21
2.2.4.2. Empirical studies................................................................................ 22
2.3. Summary of literature reviews........................................................................ 23
CHAPTER 3: METHODOLOGY .......................................................................................... 27
3.1. Dataset............................................................................................................... 27
3.1.1. Description ................................................................................................. 27
3.1.2. Data allocation........................................................................................... 28
3.2. Methodology justification................................................................................. 29 iii 3.2.1. Definition of variables ............................................................................... 29
3.2.1.1. Liquidity ............................................................................................... 29
3.2.1.2. Credit risk ............................................................................................ 32
3.2.1.3. Regulatory capital arbitrage ............................................................. 34
3.2.1.4. Performance ....................................................................................... 36
3.2.2. Analytic model ........................................................................................... 38
3.2.2.1. Univariate analysis ............................................................................ 38
3.2.2.2. Multivariate analysis .......................................................................... 38
CHAPTER 4: RESULTS AND DISCUSSION ......................................................................... 41
4.1. Univariate analysis ........................................................................................... 41
4.1.1. UK banks analysis .................................................................................... 41
4.1.1.1. Liquidity ............................................................................................... 41
4.1.1.2. Credit risk transfer ............................................................................. 48
4.1.1.3. Regulatory capital Arbitrage ............................................................ 51
4.1.1.4. Performance ....................................................................................... 54
4.1.2. Comparison between Northern Rock and Lloyds TSB ....................... 58
4.1.2.1. Overview of securitisation between Northern Rock and Lloyds
TSB (2000 – 2007) .......................................................................................... 58
4.1.2.2. Univariate analysis between Northern Rock and Lloyds TSB .... 62
4.2. Multivariate analysis ........................................................................................ 75
CHAPTER 5: ADVANTAGES, LIMITATIONS AND RECOMMENDATIONS .......................... 79
5.1. Advantages ....................................................................................................... 79
5.2. Limitations ......................................................................................................... 79
5.3. Recommendations ........................................................................................... 80
CHAPTER 6: CONCLUSIONS............................................................................................. 81
REFERENCES.................................................................................................................... 83
APPENDIX........................................................................................................................... I

iv

LIST OF ABREVIATIONS
SPV: Specific purpose vehicle

ABS: Asset backed security

OTD: Originate to distribute

CDO: Collateralised debt obligation

CLO: Collateralised Loan Obligation

FSA: Financial Services Authority

ROAA: Return on average asset

ROAE: Return on average equity

CIR: Cost to income ratio

v

LIST OF FIGURES
Figure 1: Securitisation process ................................................................... 6
Figure 2: Securitisation in US and Europe market (2000-2010) ................... 8
Figure 3: Securitisation in the UK (2000-2010) ............................................. 8
Figure 4: Interbank ratio-L1 .......................................................................... 45
Figure 5: Liquid Assets/Deposit & short-term funding-L2.............................. 45
Figure 6: Liquid Assets/Total deposit & borrowing-L3................................... 46
Figure 7: Net loans/Deposit & short-term funding-L4 .................................... 47
Figure 8: Net Loans/Total assets-L5 ............................................................. 47
Figure 9: Net loans/Total deposit & borrowing-L6 ......................................... 47
Figure 10: Impaired loans/Equity-R1 ............................................................ 48
Figure 11: Non-performing loans/Gross loans-R2 ........................................ 49
Figure 12: Loan loss/Net interest income-R3 ................................................ 49
Figure 13: Loan loss reserve/Gross loans-R4 .............................................. 50
Figure 14: NCO/Average gross loans-R5 ..................................................... 50
Figure 15: Capital funds/Deposit & short-term funding-C1 ........................... 51
Figure 16: Capital Funds/Net loans-C2......................................................... 52
Figure 17: Capital Funds/Total assets-C3 .................................................... 52
Figure 18: Equity/Liabilities-C4 ..................................................................... 53
Figure 19: Equity/Total assets-C5................................................................. 53
Figure 20: Tier 1 Ratio-C6 ............................................................................ 54
Figure 21: Total capital ratio-C7.................................................................... 54
Figure 22: Return on average assets-ROAA ................................................ 55
Figure 23: Return on average equity-ROAE ................................................. 55
Figure 24: Cost to income ratio-CIR ............................................................. 56

vi

Figure 25: Northern Rock bank‟s Liabilities, 2000-2007 ............................... 59
Figure 26: Lloyds TSB bank‟s Liabilities, 2000-2007 .................................... 61
Figure 27: Total amount of securitised notes issued by Northern Rock and
Lloyds TSB, 2000-2007 ................................................................................ 61
Figure 28: Interbank ratio-L1 ........................................................................ 65
Figure 29: Liquid assets/Deposit & short-term funding-L2 ............................ 65
Figure 30: Liquid assets/Total deposit & borrowing-L3 ................................. 66
Figure 31: Net loans/Deposit & short-term funding-L4 .................................. 66
Figure 32: Net loans/Total assets-L5 ............................................................ 67
Figure 33: Net loans/Total deposit & borrowing-L6 ....................................... 67
Figure 34: Impaired loans/Equity-R1 ............................................................ 68
Figure 35: Impaired loans/Gross loans-R2 ................................................... 68
Figure 36: Loan loss/ Net interest income-R3............................................... 68
Figure 37: Loan loss reserve/Gross loans-R4 .............................................. 69
Figure 38: NCO/Average gross loans-R5 ..................................................... 69
Figure 39: Capital funds/Deposit & short-term funding-C1 ........................... 69
Figure 40: Capital funds/Net loans-C2 .......................................................... 70
Figure 41: Capital funds/Total assets-C3...................................................... 70
Figure 42: Equity/Liabilities-C4 ..................................................................... 71
Figure 43: Equity/Total assets-C5................................................................. 71
Figure 44: Tier 1 Ratio-C6 ............................................................................ 71
Figure 45: Total Capital Ratio-C7 ................................................................. 72
Figure 46: Return on average assets-ROAA ................................................ 72
Figure 47: Return on average equity-ROAE ................................................. 73
Figure 48: Cost to income ratio-CIR ............................................................. 73
Figure 49: Schematic drawing of a typical securitization transaction ............ ..I vii LIST OF TABLES
Table 1: Empirical studies and main methodologies reviews ........................ 24
Table 2: Variables and expected signs ......................................................... 37
Table 3: Descriptive statistics for securitising banks ..................................... 42
Table 4: Descriptive statistics for non-securitising banks.............................. 43
Table 5: World average values for the ratios ................................................ 44
Table 6: Unvariate analysis results between UK securitising banks and non-securitising banks .................................................................................. 57
Table 7: Northern Rock bank‟s Liabilities, 2000-2007 (£million) ................... 59
Table 8: Lloyds TSB bank‟s Liabilities, 2000-2007 (£million) ........................ 60
Table 9: Variables between Northern Rock and Lloyds TSB ........................ 63
Table 10: Variables between Northern Rock, Lloyds TSB and UK banks..... 64
Table 11: Expected and real signs in UK securitising and non-securitising banks, Lloyds TSB and Northern Rock ......................................................... 74
Table 12: Logit Models ................................................................................. 75
Table 13: European securitisation issuance (€Billions)................................. II
Table 14: US securitisation issuance (€Billions) ........................................... II
Table 15: Securitisation issuance separated by country in Europe and the
US................................................................................................................. III

viii

CHAPTER 1: INTRODUCTION
This chapter will provide the motivations, objectives and general structure of this dissertation.

1.1. Motivations

Before the turbulence in financial market, a range of banks applied a new banking model called originate-to-distribute model where banks became the originators and distributor instead of originators and holders of loans.
For example, banks can issue a covered bond backed from a loan without holding it on balance sheet until maturity or sell their assets to a SPV
(Affinito and Tagliaferri, 2010). As a result, securitisation has become prominent in the USA since the 1980s and in Europe since early 1990s.
Pennacchi (1988) stated that securitisation was likely to be a fundamental alteration in banking activities.

However, after crisis, several scholars expressed that securitisation links with financial turmoil because securitisation is supposed as a positive factor of financial development and a negative element in credit crisis
(Ashcraft and Schuermann, 2008; Shin, 2009) or Draghi (2008) highlighted that securitisation is a double-edged sword. For instance, the positive point was emphasised by Greenspan (2000) such as effective risk management, transparency enhancement, liquidity and efficient risk allocation. However, the negative attitudes (BIS, 2008; ECB, 2008) such as crisis risk increase, lack of screening borrowers became popular not only after the turbulence, but also before that (CGFS, 2003 and 2005;
Rajan, 2006; Fender and Mitchell, 2005; BIS, 2006; Allen and Carletti,
2006).

Rather than the focus on the effect of securitisation on financial market or the links with credit crisis, the investigation of securitisation determinants may be more interesting, which helps regulators to control this market
1

effectively. This issue arose in several studies during 1980s in relation to determinants of loan sales, which are only partially different from securitisation (Donahoo and Shaffer, 1991; Giddy, 1985; Pavel, 1986;
Pavel and Phillis, 1987; James, 1988) or recently such as Cerrato et al.
(2012), Cardone-Riportella et al. (2010), Martín-Oliver and Saurina (2007).
Moreover, despite the dramatic development of securitisation, there is ambiguous research on why banks securitise their assets, especially in the UK. Therefore, this thesis adds to recent empirical studies to analyses the factors that underpin UK banks to securitise assets during the period from 2000 to 2010.

1.2. Objectives

The objectives of this thesis are:



To illustrate differences in characteristic of banks securitised assets and banks did not



To analyse which factors influence the decision to securitise assets and the most important motivation for banks to involve in this activity. 

To understand why Northern Rock bank securitised assets much more than Lloyds TSB.

To examine those issues, this study employs both univariate and multivariate analysis of four main groups of variables including liquidity, credit risk transfer, regulatory capital arbitrage and efficiency via a logit regression adopted from a model of Cardone-Riportella et al. (2010) by a sample of UK banks and the comparison between Northern Rock and
Lloyds TSB during 2000 to 2010.

It is found that liquidity need is the most crucial element for banks to securitise assets, followed by regulatory capital arbitrage as a motive of securitisation while there is weak evidence that banks involving in
2

securitisation

because

of

credit

risk

transfer

and

performance

enhancement.

1.3. Structure

The thesis is organised as follows:



Chapter 1 - Introduction



Chapter 2 - Literature Reviews: provides the basis of securitisation including definition, process and securitization market and reviews several studies on the determinants including liquidity, credit risk transfer, regulatory capital arbitrage and efficiency.



Chapter 3 - Methodology: specifies the descriptive statistics data and the logistic regression model to determine the most important motives of issuing asset backed securities.



Chapter 4 - Empirical Results: explain the finding of data tested through two main groups: securitising banks and non-securitising banks, Lloyds TSB and Northern Rock via univariate and multivariate analysis.



Chapter 5 - Advantages, Limitations and Recommendations: present the success, limitation of this thesis and several implications for future studies.



Chapter 6 - Conclusions

3

CHAPTER 2: LITERATURE REVIEWS
This chapter will provide an overview of securitisation and several literature reviews about the determinants of securitisation.

2.1. Overview of securitisation

This part will provide an overview of securitisation including definition, the process of securitisation and the development of the securitisation market.

2.1.1. Definition

As indicated in the New Basel Capital Accord (2001), securitisation is a process where an origination institution transfers assets or obligation legally and economically into a third party; for example a SPV who issues
ABS. ABS is supposed as claim against the pool of specific asset.

Deacon (2004) explained securitisation as a method of transforming cash flows derived from originator‟s underlying assets or receivables into ABS which that entity can use to obtain repayment stream smoothly and raise their finance.

Wolfe (2000) defined securitisation as a process to convert assets which are illiquid and less marketable, for example business loans, residential mortgages, car lending or credit card receivables, into more marketable assets which are easily traded in financial market.

Jobst (2006) defined securitisation as a process where a financial entity issues their securities which are backed by the cash flows created from a package of their underlying instruments or assets. In this case, those entities will pool and repack their illiquid and heterogeneous assets or instruments such as bank loans or a bond portfolio into marketable and
4

liquid securities such as securitised notes where those asset risks will be separated from the originators and the investors (Cerrato et al, 2012).

2.1.2. Process

The securitisation deals are normally structured by receivables including interest and principal of the loan, collected by originator from the underlying debtors and transferred into a SPV. This deal is supposed as a true sale in separating receivables from the originator‟s insolvency risks.

First, the financial entities will package their asset pool which is homogeneous and transfer to SPV or trust. SPV will issue securities backed by the cash flows of those assets and transfer the proceeds collected from those securities to the originators which are lower than receivables‟ face value (Deacon, 2004).

To enhance the effectiveness of securitisation, a rating agency and a credit enhancement such as an insurance company are engaged to assess the credit quality of that pool of underlying assets and securitisation transaction structure or decrease credit risk of this transaction deriving from originator or the counter-party. The asset backed securities will be rated by agency by investment grading from D to
AAA grade (Choudhry, 2004). That pool of assets belongs to SPV but still is managed by the originator.

Those securities such as securitised notes or bonds are categorised into various tranches with different maturities, yields and payment priorities and retained partly by the originators or sold to the investors and traded in the financial market (Gumata et al, 2005). Besides, the originators can retain or hold subordinated notes which are issued by SPV with residual risks on the receivables as a credit enhancement.

5

Finally, SPV finishes its obligation by paying receivable to the investors of those securitised notes or bonds (Deacon, 2004) (See Figure 1)1
Figure 1: Securitisation process

Source: Deacon (2004), Choudry (2004)
2.1.3. Overview of securitisation market
ABS was first introduced in 1970s when the Government National
Mortgage Association pass-though were growth (Lockwood et al., 1996).
Since the first securitisation was transacted in the US, the securitisation market has developed and dominated the market for mortgage, becoming a crucial factor in customer and business lending (Altunbas et al., 2009).
This market has developed exponentially and still exceeds the corporate bond market size after the financial crisis in 2007 (Loutskina, 2011)2.

1

Refer securitisation process explained by Gorton and Souleles (2006) in Appendix 1
“In 2007, $8.1trillion of loans outstanding was financed through securitization, or about 40% of all loans outstanding” (Loutskina, 2011)
2

6

2.1.3.1. The development of global securitisation market

The growth rate of this market in the US is dramatically higher than that in
Europe because it was introduced much later and not significantly developed in Europe until the 1990s (Altunbas et al., 2009). The volume of securitisation in Europe has accelerated spectacularly after 2000 to
2008 as a result of three principal elements including the investors‟ increasing demand3, the innovation of technology and finance4, and the financial market integration in Europe such as the introduction of euro monetary5 (Altunbas et al., 2009) and declined afterwards. The volume of securitisation in the US reached the peak in 2003 at €2,914.5 billion whilst this in Europe was at the highest point of €711.1 billion in 20086.

Nevertheless,

due

to

the

securitised

subprime

housing

market

delinquencies in 2007 and the following financial crisis, a range of mortgage lenders went out of business (Purnanandam, 2011). Therefore, the volume of securitisation after 2007 has decreased significantly; as criticised, securitisation was widely regarded as a culprit of subprime crisis, resulting in financial crisis7.

3

“The demand for ABS grew rapidly from institutional investors, who were more willing to invest in credit risk.
ABS catered for the increasing number of sophisticated institutional investors seeking to buy assets that typically had a good rating and provided an extra yield over government bonds (Rajan, 2006). Moreover, these securities can be constructed to offer specific, sometimes even tailor-made, risk-return trade-offs that can be segmented by rating, asset class, sector and country of origination, thereby tapping into a broader investor base” Altunbas et a.l, 2009).
4
“Technological advancements were instrumental in the development of securitisation via dramatic improvements in the storage, processing and pricing of financial data. Technological progress therefore changed the cost structure of issuing ABS and made feasible an increase in the spectrum of structured products available” (Altunbas et al., 2009).
5
“The introduction of the euro gave a strong impulse to the corporate bond and securitisation markets (ECB,
2007). The disappearance of exchange rate risk among euro-area countries, the increase in financial integration (Baele et al., 2004) and a more market-based financial system all contributed to enhancing the liquidity and size of the securitisation market. As a result, institutional investors increased their cross-country exposure while issuers gained access to a broader pool of potential investors. At the same time, increased bank competition also spurted issuance by lowering underwriters‟ and other fees” (Altunbas et a.l, 2009).
6
See Appendix 2
7
The mortgage securitisation is supposed as a key element of subprime lending crisis in 2007 (Adrian and
Shin, 2008; Brunnermeier, 2008; and Kashyap, Rajan and Stein, 2008). Moreover, policy makers and journalists also blamed the transparency lack of the ratings associated with securitisation process played a significant part of crisis (International Monetary Fund, 2008).

7

Figure 2: Securitisation in US and Europe market (2000-2010)

Year

Source: SIFMA (2011)
2.1.3.2. The development of UK securitisation market

Since securitisation was introduced in Europe, total amount of UK securitisation has represented approximately thirteen percent of all
European securitised debts, followed by other countries: Netherlands,
Spain, and Italy8. The volume of securitisation market in the UK increased after 2002 and indicates a rapid growth during 2002-2008 before a decrease after 2008 as a result of financial crisis in 2007 (See Figure 3).

Figure 3: Securitisation in the UK (2000-2010)

Year

Source: SIFMA (2011)
8

See Appendix 2

8

After the financial turmoil in 2007, this market has been blamed as a catalyst of crisis because it was stated that banks relied on this method due to regulatory capital arbitrage (Jackson et al., 1999) and declined dramatically to under €382.9 billion9.

2.2. Determinants of securitisation

In this section, we will analyse the determinants of securitisation concerning the liquidity need, credit risk transfer, regulatory capital arbitrage and efficiency through hypotheses and empirical studies.

2.2.1. Liquidity

2.2.1.1. Hypotheses

According to funding hypothesis, banks are likely to securitise assets as alternatives to deposit to obtain new funding sources and a better match between assets and liabilities. It is also pointed out in Greenbaum and
Thakor (1987), DeMarzo and Duffie (1999), DeMarzo (2005).

In last decades, deposit is considered as a main funding source for banks to run their business smoothly. However, as James (1988), DeYoung and
Rice (2004), Stanton (1998), Parlour and Plantin (2008) criticised, banks did not try to appeal customers for deposits; instead, banks sold their assets. However, some potential problems concerning control, regulation, and policy derived from this program can be a deposit reduction in banks and a payment service migration from banks to other financial intermediaries, namely credit card operators or mutual funds when banks diversify funding models (Greenbaum and Thakor, 1987). Moreover, a new bank type with proceeds originated mainly from the securitisation fees of originating and packaging loans instead of customer transactions is shaped (Cardone-Riportella et al., 2010).
9

See Appendix 2

9

It is argued that when banks securitise loans to issue securities through
SPV which are compatible with other commercial papers and preferred by the investors rather than traditional deposit, those entities can obtain more long-term funds (Loutskina and Strahan, 2009; Estrella, 2002).

Moreover, securitisation became a favourite funding source for most of banks because banks benefit from funding without providing deposit insurance to customer or reserve requirements to central banks (Affinito and Tagliaferri, 2010). Besides, banks can lower funding costs because with partial recourse, securitisation may be an effective mechanism in order to signal information of loan quality (Greenbaum and Thakor, 1987).

Regarding funding maturity, in traditional banking model, banks grant loans to customers and hold those loans in balance sheet until the maturity. However, it is stated that securitisation may alter the commercial business in banks fundamentally when they can reach liquidity from some assets which are difficult to sell in markets by issuing securitised bonds of a mortgage or a portfolio rather than holding in balance sheet during whole long-term maturity or selling it to SPV (Pennacchi, 1988).

With respect to financial position, Agostino and Mazzuca (2011) explained that a weaker bank is more predisposed to enhance securitisation programs because it can gain the profit which is the providing of liquidity immediately from securitisation process. Thus, it is helpful to recover the balance for banks struggling with financial issues. However, it is debated that stronger financial institutions also benefit from the liquidity increase by creating more new loans. In this case, the relationship between the possibility of securitisation and liquidity needs is not clear. As analysed by
Cardone-Riportella et al. (2010) securitisation offers banks a new fund to raise lending, which entails more banks become loan originators or risk distributors immediately after granting a loan, not only for weaker banks.

10

In term of balance sheet, according to a theoretical model for security design about important applications of securitisation markets such as asset-backed securities conducted by DeMarzo and Duffie (1999),
DeMarzo (2005), it is implied that liquidity needs to fund balance sheet is a principal driver for security design. To be clearer, we can analyse securitisation role in bank liquidity through the change in balance sheet.
Gorton and Pennacchi (1995) explained that securitisation is impacted by liquidity obviously through cash transaction. Banks pack mortgages into a bundle, make a risk assessment through a rating agency and use SPV which issues notes to fund the assets purchased from banks, following an off-balance sheet sale of the underlying bank‟s portfolio. Consequently, banks obtain certain cash inflow from that transaction and reallocate it, helping them to be able to restructure their balance sheet.

2.2.1.2. Empirical studies

Through recent research, it is recorded that the liquidity need is the crucial motivation for banks securitising assets, for example, in Agostino and
Mazzuca (2011) study. Moreover, Cardone-Riportella et al. (2010) stated that entities tend to implement securitisation when they found that their assets lack of liquidity. Therefore, the motives to obtain securitisation may be higher for banks in liquidity shortage (Bannier and Hänsel, 2008).

Cardone-Riportella et al. (2010) applied a Logistic regression model for
408 Spanish banks which securitised assets or securitised liabilities from
2000 to 2007. It is investigated that the finding new sources and the demand to boost efficiency are prerequisites for securitisation, whilst credit risk transfer and regulatory capital arbitrage are not supported by empirical evidences, which is coincident with the forecast in the DeMarzo and Duffie (1999) model10.

10

“This model is about the motivating reason for the massive growth of the securitisation market, confirming the need for low-cost financing as a decisive factor”.

11

Cardone-Riportella et al. (2010) investigated that Spanish banks which have high and rapid growth rate of lending and not enough wholesale funding or customer deposit are likely to resort securitisation to transform long-term maturity and illiquid assets to liquid instruments. The number of
Spanish banks underwriting their securitisation process as a mechanism in order to obtain liquidity and resources in the auctions from the
European Central Bank has increased significantly after the crisis in 2007.
In addition, some Spanish banks employed securitised bonds from
Financial Assets Acquisition Fund generated by the Spanish Government in searching liquidity. This fund offered banks create more funding source to keep granting loans to residential sectors, instead of issuing debt or borrowing from wholesale market.

Martín-Oliver

and

Saurina

(2007)

considered

the

securitisation

determinants via Spanish banks dataset from 1999 to 2006. By using a probit model and distinguishing between ABS and covered bond, they found that liquidity need is only securitisation motive, which is consistent with the results that liquidity is the principal factor of securitisation tested by Cerrato et al. (2012) via UK bank samples from 2000 to 2010.

2.2.2. Credit risk transfer

2.2.2.1. Hypotheses

As risk-appetite argument, securitisation may be used as a risk transfer tool. Banks with higher expected credit risk are more likely to securitise their loans. Each bank has a particular risk-appetite regarding improving expected returns. By doing securitisation, banks can get free capital which they may invest in other riskier business with higher demanding return.
Thus, the credit risk transfer motive implies an ex-ante notion for banks which would like to take risk to obtain higher expected return rather than the normal risks.

12

Therefore, it is expected that credit risk transfer driver shows a positive impact on banks‟ propensity in securitising their loans, not only for higherrisk banks. Nevertheless, this tool is limited because the originators who are in the higher deciles of credit risk are investigated to reduce securitisation along with higher credit risk. It is found that well-performing banks securitise less than low-performing banks, which counters slightly to the risk-appetite hypothesis (Bannier and Hänsel, 2008).

With respect to the bank risk profile, Martín-Oliver and Saurina (2007) and
Cerrato et al. (2012) explained that banks always encounter with credit risk from counter-parties when they are default or their payments are delay, especially for banks with higher risk or high leverage which face financial distress involuntarily and easily. Thereby, they tend to securitise their risky assets such as consumer loans, mortgages loans or business loans to transfer credit risk to third parties or the capital market instead of sticking them on bank balance sheet and financing by debt and equity or to support their OTD model. Moreover, the influence of securitisation motives is stronger for the entities with higher risk.

However, Martín-Oliver and Saurina (2007) implied that as a result of the recent financial crisis, the OTD model does not work as expected that it will be risk-free or complete risk-transferring to the third parties. First, because some banks rely mainly on the interbank market in order to finance the excessive growth of lending, as in the case of Northern Rock that came to fail. Second, banks should retain a certain part of loan risk to continue screen and evaluate the borrowers‟ credit quality properly
(Gorton and Pennacchi, 1995).

Regarding to financial distress cost, asset securitisation is also a way for banks to minimise that cost because they can rely on SPV to remove those loans from banks‟ balance sheet (Gorton and Souleles, 2006).
Consequently, a bank encountering greater financial distress cost is inclined to engage in securitisation market than other banks. This point is
13

emphasised in numerous studies recently such as Bannier and Hänsel
(2008) and Minton et al. (2004) to demonstrate that securitisation is supposed as a risk-transferring and financing tool to improve risk-sharing and liquidity transformation efficiency.

Nevertheless, the effective credit risk transfer to final creditors is limited because the originator always wants to remain or repurchase a certain tranche of securitised assets which credit quality is worst among all tranches (Ambrose et al., 2005). With this retention, banks can ensure that their credit enhancement for other tranches is sufficient and those securitised bonds SPV structures and sells to final investors are at lower cost in the market. This retaining is incorporated with the capital arbitrage explained in the next part where banks retain riskier assets and take the least risky and better-performing assets off balance sheet to alleviate capital requirement on low-risk assets (Cantor and Demsetz, 1993).

In term of risk exposure, banks with higher risky loans are more likely to securitise their assets to lessen balance sheet burden (Cumming, 1987,
Dell‟Ariccia et al., 2008, Flannery, 1994) or relatively expected losses
(Dahiya et al., 2003, Marsh, 2006).

Nevertheless, some analytics opposed that banks may securitise highquality assets and retain low-quality assets if economic capital connected to market discipline is lower than regulatory capital and higher risk weighted assets bestow banks an appropriate balance between safety and returns (Affinito and Tagliaferri, 2010). Specifically, banks may sell their high-quality loans and earn the proceeds to grant new loans to riskier borrowers; thus, banks can improve their expected return without capital requirement change, aligning regulatory capital and economic capital
(Greenbaum and Thakor, 1987), also supported by Kim and Santomero
(1988), Kohen and Santomero (1980), Blum (1999) and Flannery (1989).
However, if banks remain only lower credit quality assets on balance sheet, securitisation may increase banks‟ risk profile (Murray, 2001).
14

By contrast, there is immediate criticism by Rochet (1992), Furlog and
Keeley (1989, 1990) that if banks own a diversified portfolio, capital requirements may decrease their incentives to taking risks; hereby, implying a further motives of securitisation, profit consideration and capital requirements, not loans quality (Drucker and Puri, 2006; Duffie, 2008).

2.2.2.2. Empirical studies

Dionne and Harchaoui (2008) analysed the influence of securitisation from the dataset of Canadian banks on the bank risks incurred from securitisation. It is concluded that a positive relationship between bank risks, namely liquidity risk, credit risk, systematic risk, interest rate risk and securitisation amount is found clearly. However, this study could not answer the principal question about the reason for Canadian banks involving in securitisation.

Hänsel and Krahnen (2007) followed a different way about the impact of using credit derivatives on large banks‟ risk. Through the data of
European CDOs, it is explored that the increase of credit securitisation is consistent with the rising in the bank‟s risk appetite. Specifically, the equity beta or systematic risk of the CDO issuers is likely to increase significantly, especially for lower-profitable or high-leveraged banks.

As empirical research result implemented by Cardone-Riportella et al.
(2010), it is expressed that securitisation cannot allow banks to transfer risk to the third parties because this driver is not relevant in the ABS process of Spanish banks. As explained in his study, Spanish banks which apply the originate-to-hold model rather than the OTD model are quite different with other banks in financial market, particularly in US banks. Spanish banks are inclined to retain the increasingly large risk portion regarding asset securitisation.

15

Cerrato et al. (2012) via a sample of UK banks from 2000 to 2010 expressed that credit risk transfer have played a small role in banks‟ decision to involve in securitisation activities. By using Italian bank dataset from 2000 to 2006, Affinito and Tagliaferri (2010) confirmed that riskier banks are more likely to securitise their assets.

Bannier and Hänsel (2008) via CLO transactions conducted by European banks during the period from 1997 to 2004 concluded that banks with the highest deciles of credit risk did not show an inclination towards securitisation and European commercial banks tend to feed the riskappetite to improve expected return through CLO transactions.

2.2.3. Regulatory capital arbitrage

2.2.3.1. Hypotheses

According to the regulatory capital arbitrage hypothesis, banks are likely to securitise to obtain regulatory capital arbitrage by transferring the highquality assets to other investors, which helps them reduce the regulatory risk measures without occurring any real economic risk (Greenbaum and
Thakor, 1987). It is highlighted that under asymmetric information and no government intervention; the financial institutions securitise the better quality loans and remain the riskier assets which are funded by deposits in their portfolio to gain regulatory capital arbitrage. However, under the new Basel Capital requirement with new framework of securitisation and risk weights, this incentive is alleviated partly; yet, some motives have still been remained because the new role does not consider the geographical diversification of portfolio (Calem and LaCour-Little, 2004).

In addition, through regulatory capital relief hypothesis, it is demonstrated that banks which have lower capital ratios, especially banks with capital ratios near the limit of regulatory requirement are inclined to implement securitisation activities. It is explained that to meet the requirement from
16

Basel I framework, banks must provide a sufficient capital buffer to ensure their ability to bear certain loss of default or remain regulatory capital ratio of 8 percents. However, this accord does not consider the risk of borrower bank granted loans; hence Basel II was revealed, requiring banks holding a higher capital ratio for loans offered to higher-risk firms.

Therefore, this framework becomes a barrier for banks with low capital ratio; then, banks seek the way to remove lower-risk assets from balance sheet and hold higher-risk assets by securitising loans to obtain proceeds and grant new loans to riskier borrowers. This arbitrage helps bank improve expected return without capital requirement change and meet
Basel‟s requirement (Calem and LaCour-Little, 2004; Jones, 2000).

After the introduction of the new Basel accord in 2008 which no longer permits a regulatory capital relief by securitising loans, although the capital requirement is reduced closer with the portfolio quality and risk exposure originators retained, the interest in using of capital arbitrage as a securitisation motive to issue CLO has been shrunk, which are suspected by Duffie and Garleanu (2001), Calomiris and Mason (2004).

However, Minton et al. (2004) proved that regulatory capital arbitrage could not deteriorate and still remain its contribution to the development of securitisation market, although securitisation has some drawbacks such as tax benefits reduction from on-balance sheet debt and the setting up cost. Furthermore, although there has been a range of restrictions imposed on banks employing securitisation to decrease their capital requirement after Basel II record came into effect in Spain, CardoneRiportella et al. (2010) showed that regulatory capital arbitrage plays an important role in securitisation market, especially in the case of distinguishing between various classification of loan securitisation to small and medium entities. Specifically, banks which issue residential mortgage backed securities want to gain the liquidity whilst regulatory capital

17

arbitrage is the main reason for banks issuing securities which backed by bank loans to medium-sized and small-sized firms.

Moreover, banks with higher ratio of regulatory capital arbitrage signal well-capitalised banks because those banks which can maintain higher ratios do not bear pressure derived from capital requirement. Therefore, they do not desire to follow this hypothesis; thus, expected relationship between regulatory capital arbitrage indices and the likelihood of securitisation hold a negative signal. In another words, when the hypothesis of regulatory capital arbitrage turns out true, banks with low regulatory capital hold increasingly greater motives in securitisation activities (Agostino and Mazzuca, 2011).

In order to respond market discipline in economic capital requirement, and mandatory capital requirements, banks can retain earning, issue equity or cut back assets, decrease loans or change into low risk weighted assets, traditionally. On the other hand, banks can choose securitisation to adjust the regulatory capital ratios. As cited in many empirical research such as
(Berger and Udell, 1993; Froot et al., 1993; Jagtiani et al., 1995;
Carlstrom et al., 1995; Berger et al., 1995; Allen et al., 1996; Froot and
Stein, 1998; Jackson et al., 1999; Jones, 2000; CGFS, 2003; Altunbas et al., 2009), thanks to securitisation banks can be released partly from regulatory and market capital requirement. Pennacchi (1988) proved that one of significant incentives is bank regulation and asset backed securitisation such as credit card or mortgages securitisation is correlated with regulatory capital arbitrage (Calomiris and Mason, 2004). Similarly, it is investigated that securitisation program may diminish the burden from regulatory capital (Thomas, 1999).

Nevertheless, Bannier and Hänsel (2008) opposed this hypothesis because they found that entities with lower tier 1 capital have less incentive to securitise than banks with higher tier 1 capital, significantly, which is supposed as reverse effect of regulatory capital arbitrage.
18

Regarding capital savings, Ambrose et al. (2005) implied that if banks recognise the capital savings, banks would follow a tendency towards regulatory capital arbitrage, also argued by Kashyap et al. (2008). It is stressed that banks will concern capital savings if securitising banks can alleviate the capital requirement without reduce of their assets risk. On the other hand, banks with lower capital ratios may have lower insolvency risk if risk can be transferred off bank balance sheet via securitisation. In reality, if banks securitise assets and do not hold any risk in their securitised loans, in general, capital arbitrage become increasingly desirable due to the reasonable match between regulatory capital and economic capital (Calomiris and Mason, 2004).

Jones (2000) suggested that securitisation is a classic model among numerous common regulatory capital arbitrage techniques to conduct regulatory capital arbitrage. Because banks should seek a way in order to align regulatory risk measures closely with the real economic risk of banks, which help them prevent a remarkable incline of capital arbitrage.

By using a simulation method, Calem and LaCour-Little (2004) argued that banks have their motives to obtain regulatory capital arbitrage in order to securitise their less risky assets because the capital standards are too high for those banks. It is because the credit risk capital charges are affected appropriately by banks‟ loan characteristics and the geographical diversification of banks‟ portfolio, resulting in the considerate divergence between economic capital and regulatory capital.

2.2.3.2. Empirical studies
Ambrose et al. (2005) via a dataset of 14000 mortgage loans in US market from 1995 to 1998 showed the advantages of securitisation such as augment fee income, credit risk reducing, leverage ratio enhancement, liquidity needs. Moreover, they gave the conclusion that regulatory capital arbitrage and reputation are the main reasons for banks to securitise
19

assets. It is also demonstrated that the mortgages which is securitised have the lower ex-post rates of default than non securitised mortgage.

Uzun and Webb (2007) via a panel of 112 US banks proved an evidence that the decision to securitise banks‟ loans is correlated negatively to bank capital ratios, supporting the regulatory capital relief hypothesis that there exists a link between securitisation and regulatory capital arbitrage.

Bannier and Hänsel (2008) through the samples of European banks found a major reverse effect from regulatory capital arbitrage, which is the less likelihood of securitisation for the banks with lower tier 1 capital.
Furthermore, it is empirical revealed that there is a negative affect between securitisation and Tier 1 capital (Dionne and Harchaoui, 2008).

Affinito and Tagliaferri (2010) tested the Italian banks data from 2000 to
2006 to explore the securitisation determinants and confirmed a result that regulatory capital requirement is a decisive driver for bank to engage in securitisation. This conclusion may suggest that Basel ruler generated incentives for banks to move their exposures of bank‟s balance sheet.
However, these results are only applicable in case of Italian banks, not for
US, UK or Spanish banks because Italian banks employ the deposits from customers mainly to fund their financial position and only small proportion of Italian banks pursue securitisation program.

Calomiris and Mason (2004) analysed credit card receivables via a sample of top 300 listed commercial banks in Faulkner and Grey in 1996 to evaluate which banks are involved in regulatory capital arbitrage. It is explored that increasing risk regarding capital to maximise the safety net subsidy value is one of the objectives to securitise in the first viewpoint. In another perspective, originators, which consider the requirement of market capital rather than regulatory capital requirements and deal with information asymmetry issues, may securitise assets with recourse to adapt capital regarding risk better.
20

2.2.4. Performance improvement

2.2.4.1. Hypotheses

According specialisation hypothesis, securitisation is regarded as providing opportunities for banks to specialise their business activities and enjoy their competitive advantage. Via selling their loans, banks decompose their traditional lending activities into more elemental ones; for instance, funding, servicing, guaranteeing and origination and specialise them, which bestow banks greater compatible advantage
(Greenbaum, 1986). Thus, to increase specialisation level in banks activity such as loan origination in order to enhance their performance, banks tend to securitise their loans.

Bannier and Hänsel (2008) in their studies stated that the desire to enhance financial efficiency probably underpins banks which have lower return on equity and return on assets or higher cost to income ratio to securitise assets. It is considered that there is the various influence of efficiency between weak banks and strong banks by taking into account two proxies including return on equity and cost to income ratio and found a positive sign for banks which have lower performance. However, he implied through the risk-appetite hypothesis argument that banks with superior performance is more active in securitisation market. Because the cost to set up the SPV and the tax flow reduction banks obtain from placing their assets on bank balance sheet and funding by debt are potential downside elements of securitisation, especially for weak banks.

Regarding profit opportunities, James (1988), Donahoo and Shaffer
(1991), Flannery (1989) and (1994), Karaoglu (2005) and DeMarzo (2005) stated that banks may benefit accounting gains from securitisation when they recognised that the loan market value surpasses the book value or the interest retained and carried at fair market value is overvalued.
Moreover, banks can redeploy loans securitised to sell for more profitable
21

and compatible business opportunities (Schuermann, 2004, Greenspan,
2004). Besides, Duffie (2008) also suggested that financial entities may securitise assets designed specifically because of their intermediation profit than long run warehousing.

Furthermore, Ayotte and Gaon (2006) showed that a strong incentive to securitise assets is found in weak banks because those banks can decrease inefficient continuation. However, it is criticised that wealth influence from securitisation is consistent with the financial slack of the originator which is understood as a proxy for bank efficiency in quarter which precede the announcement for securitisation. Therefore, wealth will be lost for weak originators and gained for strong originators.

Myers and Majluf (1994) explained that strong entities will securitise assets if they can create optimistic net present value whilst weak banks‟ securitisation transaction generates a negative signal to capital market.
Moreover, it is supported by Thomas (2001) that the successful engagement in securitisation is related to considerate gains via a cross section regression of returns.

2.2.4.2. Empirical studies
Agostino and Mazzuca (2011) tested the specialisation hypothesis by employing a regressor group comprising profitability and economic efficiency variables. He found that banks with higher return on asset are not likely to securitise assets. Regarding cost to income indicators, particular in net fees and commission measure, a relatively higher ratio reveals that banks expect to improve their business activities by diversification or raise the volume of core bank business such as lending to increase the fees of origination.

Cardone-Riportella et al. (2010) in his study confirmed the result that
Spanish banks employed securitisation as a motivation factor to enhance
22

their efficiency.

Bannier and Hänsel (2008) via CLO transactions of

European banks from 1997 to 2004 found that performance is one of main drivers for banks to securitise assets. Affinito and Tagliaferri (2010) employed the dataset of Italian banks from 2000 to 2006 and concluded that less profitable banks tend to securitise assets.

2.3. Summary of literature reviews

In summary, via above literature reviews, it is commonly confirmed that less liquidity banks are more likely to securitise assets. Moreover, banks with higher credit risk tend to implement securitisation; however, it is also argued that both high-risk banks and low-risk banks choose to securitise asset depending on their risk appetite. Regarding regulatory capital arbitrage, it is widely suggested that banks with lower regulatory capital ratios have more incentive to securitise assets. Besides, banks with lower performance may be more active in securitisation market with the view of improving efficiency. However, it is criticised that this point is applied for both low performance and high performance banks.

Therefore, this thesis will take a position in anticipating the main conclusions as below:
- The crucial motive for banks to securitise assets is liquidity. Higher liquidity banks are, higher possibility of securitisation is.
- Higher-credit risk banks are more active in securitisation market
- Regulatory capital arbitrage is an important securitisation driver. Banks with lower regulatory capital ratios are more likely to securitise loans.
- Banks with low performance tend to securitise assets to enhance efficiency. Those expectations will be explained more in methodology of next chapter.

23

In order to obtain an overview on literature reviews, this table below provides several empirical studies and the main methodologies employed to investigate the determinants of securitisation.
Table 1: Empirical studies and main methodologies reviews
Variables
Authors

Observation

Years

Data

Model
Liquidity

Calomiris and Mason
(2004)

US Banks

1996

Faulkner and
Gray‟s Card
Industry
Directory/Nils on Report

Univariate/
OLS
regression/
Probit/
Tobit

Minton et al. (2004)

US financial
Companies
with publicly traded stock

1993 2002

Compustat/
Securities
Data
Corporation

Univariate/
Probit/
Tobit

MartínOliver and
Saurina
(2007)

Spanish banks 1999 2006

Bank of
Spain/
Spanish
National
Securities
Market
Commission

Probit/
Tobit

Cash and government securities/ on balancesheet assets

Credit risk
- Total loans greater than
90 days past due or with non-accrual status/total assets - Standard deviation of total loans greater than 90 days past due or with non-accrual status/total assets - Insured deposits/total deposits Regulatory capital or equity
- Tiers 1 and 2 capital/ managed assets
- Tiers 1 and 2 capital/ on balance sheet assets - Growth of Tiers 1 and
2 capital over past year (log difference)

- Asset Risk (firm‟s stock return volatility)
- Firm‟s debt rating
(dummy)
- Leverage (Capital-Asset
Ratio)
- Credit growth
(high, medium and low) (dummy)
- Loan/deposits
- Interbank (relative weight of interbank liabilities) 24

– Return on Equity
(ROE)
– Issuer‟s tax payments - Non-Performing Loan
Ratio
- Non-Performing
Mortgage Ratio
- Concentration of the
Loan Portfolio (HerfindahlHirshman Index)

- Solvency Ratio
(quotient between capital and riskweighted assets)

Others

- Average cost of
Liabilities

Variables
Authors

Observation

Years

Data

Model
Liquidity

Credit risk

Regulatory capital or equity
- Total equity capital - Tier 1 capital
- Total risk-based capital ratio
- Tier 1 leverage ratio Others

Uzun and
Webb
(2007)

US banks

20012005

Call reports

Univariate/
Logistic
Regression

Bannier and Hänsel
(2008)

European banks 19972004

Bankscope/
Quarterly
CDO Deal
List by
Standard and
Poor‟s/
European
Securitisation
Deal List by
Computershare Fixed
Income
Services
Limited

Univariate/
Logit

– Liquidity (money lent to other banks/ money borrowed from other banks)
– Low Liquidity
(decile of banks with lowest liquidity) (dummy)
– Low liquidity _ liquidity - Risk (Credit Risk
Provision/Net Interest
Income)
- High Risk (decile of banks with highest risk) (dummy)
- High Risk _ Risk
- High Risk _ Low Tier
1 (dummy, stock-listed firms only)
- Quality (gross interest income/gross outstanding accounts)

- Tier 1 Ratio
- Low Tier 1
(decile of banks with lowest Tier 1 capital) (dummy)
- Low Tier 1 _ Tier
1
- Equity share
(equity/total
assets)

- Return on Equity
(ROE)
- Cost-Income
Ratio (CIR)
- Low Performance
(decile of banks with highest CIR)
(dummy)
- Low
Performance_CIR
- Tax

CardoneRiportella et al., 2010

Spanish banks 2000 2007

Bankscope database Univariate/
Logit

- Interbank Ratio
- Net
Loans/Deposits &
S.T. Funding
- Liquid
Assets/Deposits &
S.T. Funding

- Loan Loss
Reserve/Gross Loans
- Non-Performing
Loans/Gross Loans

- Capital
Adequacy Ratio
- Equity/Total
Assets

- Return On Assets
(ROA)
- Return On Equity
(ROE)
- Cost-to-Income
Ratio (CIR)
- Size (LN Assets)
- Commercial bank
- Savings bank

25

Variables
Authors

Observation

Years

Data

Model
Liquidity

Credit risk

Affinito and
Tagliaferri
(2010)

Italian banks

2000 2006

the Bank of
Italy‟s
accounting supervisory reports and the Italian
Central
Credit
Register

Probit,
Tobit I,
Tobit
II and random effects
Tobit

- Total deposits
/Total assets
- Bonds / Total assets - Government securities / Total
Assets
- Net interbank position / Total assets - Bad loans / Total loans Cerrato et al. (2012)

UK banks

2000 2010

Bloomberg and Bankscope

Univariate/
Logit/Probit

- Interbank Ratio
- Liquid
Assets/Customer
Deposits and
Short term funding - Liquid assets/Total deposits and
Borrowing
- Net Loans/
Deposits & Short term funding
- Net loans/Total
Assets
- Net Loans/ Total deposits and
Borrowing

- Impaired (doubtful) loans/Equity - Non-performing
Loans/Gross Loans
- Loan loss /Net interest - Loan Loss
Reserve/Gross Loans
- Unreserved Impaired
(doubtful) Loans/
Equity
- Net Charge-offs/
Average Gross Loans

26

Regulatory capital or equity
- Regulatory capital / Total credit and market risk weighted assets

- Capital funds/Customer deposits and S.T.
Funding
- Capital funds/Net loans
- Capital
Funds/Total
Assets
- Equity/Liabilities
- Equity/Total
Assets
- Tier 1 ratio
- Total Capital
Adequacy Ratio

Others
- ROE
- size: Ln (Total asset) - businesses‟ development and funding: Growth rate of loans
- businesses‟
Diversification:
Non-interest income/ Interest income - The size of the bank CHAPTER 3: METHODOLOGY
This chapter will provide the description and allocation of dataset, the definition of variables, introduction of univariate and multivariate analysis.

3.1. Dataset

3.1.1. Description

The dataset used in this thesis is collected from Bankscope11 and annual reports of UK banks. The samples comprise the information for UK securitisation market and banks‟ ratios from 2000 to 2010. This study focuses on UK market because a range of products of this market were implemented in the UK and UK securitisation market is largest in Europe, followed by Netherland, Spain (Blommestein et al., 2011).

This time frame coincides with a significant growth of securitisation and credit crunch in the UK when securitisation was blamed for credit crisis
(Shin, 2009). However, in the comparison between Northern Rock and
Lloyds TSB, this thesis concentrates only the period from 2000 to 2007 as a result of Northern Rock‟s run in 2007 when it was nationalised (Shin,
2009). Therefore, the data of Northern Rock after 2007 is unnecessary to understand the reason why Northern Rock securitised assets.

To unify the samples more homogenously, this study fouces on 157 banks that incorporated in the UK according to bank list authorised by the
FSA updated on 31/07/2012 12 . The list is updated on the day of
Bankstats publication and sourced from information provided by the FSA, who also publishes an alternative list, showing banks by types13.

11

Bankscope: update number: 265.1; software version: 57.01; data update: 07/08/2012 (No 1241); export date:
07/08/2012; username: sotonuni-2220
12
http://www.fsa.gov.uk/pages/library/other_publications/banks/index.shtml; [Assessed: 07/08/2012]
13
See Appendix 3

27

Therefore, our samples also include the micro data drawn from banks‟ annual accounting and financial statements for UK banks (excluding building societies). Annual account and financial statements are searched and exported from Bankscope database with 121 banks data are found and 36 banks data are unavailable or including the information for short period, for example from 2008 to 2010 or there is not any information for all variables required in this analysis. Therefore, we have eliminated those banks and the dataset covers only 121 observations14.

The 121 banks dataset comprises composition of banks regarding different business fields15, including Bank Holding & Holding Companies,
Commercial Banks, Finance Companies, Investment & Trust Corporations,
Investment Banks, Islamic Banks, Private Banking & Asset Management
Companies, Real Estate & Mortgage Bank, Securities Firm and
Specialized Governmental Credit Institution. Commercial banks make up over 65 percent of the sample and as such account for the largest fraction.
Private Banking & Asset Management companies roughly account for 12 percent. Bank Holding and holding companies, Real Estate and Mortgage
Bank and specialized Governmental Credit Institution make up only a small fraction of 0.8 percent.16

Both sources of data are put together to construct a unique database for this thesis to determine the elements of banks‟ securitisation decision covering different variables which reflect the funding needs, credit risk transfer, capital adequacy arbitrage and performance enhancement.

3.1.2. Data allocation

The samples in this study consist of annual reports from 121 UK banks.
Some of those banks were involved in securitisation only once while the rest issued securitisation continuously. Therefore, the dataset is
14

See Appendix 4
Collected from Database
16
See Appendix 5
15

28

categorised into two panels. The first panel includes the observations for banks that placed at least one securitisation activity during the given period. The second sample contains the data for a group of banks that did not securitise their assets. There are 57 banks having securitisation during this period while 64 banks noted were not involved in securitisation.

3.2. Methodology justification

This dissertation investigates why UK banks securitise loans in comparisons between securitising bank and non-securitising bank in general and between Northern Rock, a bank securitised a lot during the period 2000-2010 and Lloyds TSB, a bank with less securitisation.
According to literature reviews mentioned above and expectation of this thesis, banks may be induced to securitise assets due to the following incentives: increasing liquidity, reaching arbitrages on regulatory capital, transferring credit risk or profitability.

Therefore, this thesis will be based on the model of Cardone-Riportella et al. (2010) and identify a series of specific explanatory indices including liquidity, regulatory capital arbitrage, credit risk transfer and performance improvement. Each factor will be tested by a range of regressors which mostly are banks‟ balance sheet indicators. Finally, the decision for banks to securitise assets or not is a function of these variables.

3.2.1. Definition of variables17

3.2.1.1. Liquidity

As mentioned in literature reviews from numerous empirical findings, funding is an important motivator of securitization. Therefore, the first group of regressor is explained to prove those arguments and it comprises of six different variables as proxies of the liquidity factor on
17

See Appendix 6 for more detailed

29

whether the originators

are engaged in securitisation or not. The

incentive to involve in securitisation should be higher for banks with a lack of liquidity; then, those first three ratios should make a negative contribution to the probability of securitization while we expect that the remaining three ratios should make a positive contribution for the overall liquidity coefficient.

– Interbank ratio-L1: The first liquidity variable is interbank ratio expressed as a percentage of total amounts of money which a bank lends to other banks and the number of money it borrowed from others. This ratio is given as:

Excluding the customer deposits, a stable core funding, this ratio measures liquidity risk or the level to which a bank is dependent on the funding from other banks or wholesale money market. If a bank has a high ratio, that bank is less dependent on interbank market or a net lending to other banks. Therefore, it can be understood that that bank is more liquid. Otherwise, that bank is a net borrower relying on others in the banking sector (Cerrato et al., 2012). Therefore, the expected sign for interbank ratio is negative.

– Liquid assets to deposits and short-term funding or the deposit run-off ratio-R2: This ratio is defined as the liquid asset a bank should hold divided by total amount of money from customer deposit and shortterm funding. It is also a necessary numerator for bank to meet customer and short-term funding withdrawals suddenly, given as:

30

A bank with this higher ratio is more liquid than other bank with lower ratio and that bank will be less vulnerable to financial market crisis (Cerrato et al., 2012). Therefore, the expected sign for this ratio is negative.

- Liquid assets to total deposits and borrowing-L3: is calculated as total amount of liquid assets divided by total money from deposits and borrowing. Similarly to L2, higher ratio a bank has, higher liquid that bank is.
Therefore, the expected sign for this ratio is negative.

- Net loans to deposits and short-term funding-L4: This ratio is also defined as reserves to deposit ratio (Cerrato et al., 2012), given as:

When considering this ratio, it is assumed that all bank loans are illiquid equally. Consequently, a bank with higher ratio is less liquid and the expected sign for this ratio is positive.

- Net loans to total assets-L5: The fifth proxy for bank liquidity is the percentage of total bank assets with net loans. A high liquid bank will have a lower ratio; hence, the expected sign for this ratio is positive.

Similarly, the higher ratio a bank has, the less liquid bank is; thus, the expected sign is positive.
31

- Net loans to total deposits and borrowing-L6: This is a similar ratio to the previous one. The main difference is that the denominator is now replaced by total deposits and borrowing.

For this ratio, the expected sign is positive.

3.2.1.2. Credit risk

Cerrato et al (2012) expressed that in banking sector, each bank always faces credit risk, when counter parties of a bank are default or the payment flow from them declines because of adverse change of their credit rating. When a bank employs securitisation, an opportunity is given to transfer credit risk to third parties. Therefore, to analyse the determinants of securitisation, the second proxy which reflects the credit risk of a bank is considered (Bannier and Hänsel, 2008).

From the literature reviews above, because securitisation allows banks to transfer risk of the underlying portfolio to others, in particular the capital market, it is suggested that banks with higher asset risk will have greater incentives to securitise their assets. Therefore, for this group, it is expected that the impact on probability of securitisation may be stronger for the bank with higher credit risk.

- Impaired (doubtful) loans to equity-R1: This ratio calculates total amount of bank loans which is impaired and could not be recovered or covered by bank‟s equity. Because this ratio demonstrates the weakness from bank‟s loan portfolio regarding the capital, bank with higher percentage is worse than other banks. Therefore, those banks are inclined to choose securitisation to improve this ratio and the expected sign for this ratio is positive.

32

- Non-performing loans to gross loans-R2: is calculated as the percentage of doubtful loans in the amount of total loans. With lower ratios, banks correspond to better asset-quality banks; hereby, the expected sign is positive.

- Loan loss to net interest-R3: This ratio indicates the relationship between the net interest revenue and loan loss. Similarly, the expected sign is positive.

- Loan loss reserve to gross loans-R4: This variable illustrates the amount of total portfolio is reserved by bank‟s loan loss reserve but not charge-off. Therefore, a bank with higher ratio will have a lower-quality loan portfolio and the expected sign is positive.

- Unreserved Impaired (doubtful) loans to equity: This ratio indicates the impaired loans which may not be recovered and covered by bank‟s reserves. It also expresses the percentage of the capital banks must write off when the total doubtful reserves were over total of non-performing loans. Because of the lack of data, this study will not consider it in regression analysis.
- Net charge-offs to average gross loans-R5: This variable is defined as a percentage of totals of debt which is uncollectible by bank and not recoverable definitely. Total of net charge-offs is also considered as the

33

amount of loan which is cancelled in bank‟s balance sheet. Therefore, the lower ratio indicates a sound bank and the expected sign is positive.

3.2.1.3. Regulatory capital arbitrage

This group of variables will consider seven proxies to analyse the relationship between regulatory capital arbitrage and the probability of securitising. As reviewed in the above literatures, a bank which holds less regulatory capital ratio is inclined to reach a strong incentive to securitise its assets.

- Capital funds to customer deposits and short-term funding-C1: This ratio is defined as formula below:

A bank with higher ratio will less choose asset securitisation; hence, the expected sign is negative.
- Capital funds to net loans-C2: This ratio is given by:

The expected sign for this ratio is negative.

- Capital Funds/Total Assets-C3: This ratio measures the financial soundness in a bank‟s capital structure in general. If a bank wants to improve its solvency position, it should enhance this ratio higher.
Therefore, the expected sign for this ratio is negative

34

- Equity to liabilities-C4: This ratio is known as leverage ratio, given by

The higher this ratio, the better banks are. Thus, the expected sign is negative. - Equity to total assets-C5: This ratio calculates total amount of assets protected and afforded by bank equity because equity is considered as a cushion against asset malfunction or that is the amount of equity protection a bank should hold to face loan impairment. A bank with higher ratio corresponds to a bank strongly protected. This ratio is computed as:

The expected sign for Equity to total Assets is negative.

- Tier 1 ratio-C6: Regarding the literature reviews, this thesis will analyse tier 1 ratio to explain the equity situation of a bank. Tier 1 ratio is measured as the percentage of tier 1 capital to risk-weighted assets or calculates ratio of the shareholder‟s funds plus perpetual non cumulative preference shares to risk-weighted assets and off-balance sheet risks.
This ratio must conform to the Basel rules. Generally, this ratio is used to indicate the capital adequacy of a bank, considered as a bank‟s core capital and expected to exhibit a negative affect for a bank‟s propensity to choose securitisation.

- Total capital adequacy ratio-C7: The final index is total capital adequacy ratio. Under the Basel frameworks, this ratio should be equal at least 8%. This ratio is computed by each bank internally in question and
35

giving as the percentage of total tier 1 and tier 2 capitals divided by riskweighted assets. Total capital adequacy ratio is indicated as an express of total bank‟s core capital to bank‟s assets weighted by bank‟s credit exposure, given by:

As considered in the literature reviews, a bank with higher values of this variable signals that it is well-capitalised. It implies that this bank does not bear under any pressure derived from prudential capital requirement and still can maintain this higher ratio; hence, it has less incentive to securitise its asset. Therefore, the expected relationship between total capital adequacy ratio and the probability of securitisation is negative.

3.2.1.4. Performance

This study also intends to take into account a various influence of profitability on securitisation transactions of a bank. According to the literature reviews, the effect of efficiency improvement can play an important role as a motivator for a bank to its propensity to choose loan securitisation. Therefore, a bank with higher performance is likely to securitise its assets.

- Return on average assets-ROAA: This index is defined as the returns created from the average assets financed by a bank, computed as:

A relatively higher ROAA may contribute to lower probability of securitisation to a bank; hereby, the expected sign for this ratio is negative.
- Return on average equity-ROAE: This ratio measures the return of a bank on shareholder funds. Obviously, a bank with higher ratio is better; hence the expected sign for this ratio is negative.
36

- Cost to income ratio-CIR: This index calculates the cost to run a bank in which the salaries are main proportion divided by net income.

A relatively high ratio illustrates that that bank is not in good performance and it should be correlated with the probability of securitisation negatively.
Table 2 demonstrates the expected signs for the characteristic of a bank.
Table 2: Variables and expected signs
Variables

Notation

Liquidity

Expected signs L

Interbank ratio
Liquid assets/Deposits & short-term funding
Liquid assets/Total deposits and borrowing
Net loans/Deposits & short-term funding
Net loans/Total assets
Net loans/Total deposits and borrowing
Credit risk
Impaired (doubtful) loans/Equity
Non-performing loans/Gross loans
Loan los/Net interest
Loan loss reserve/Gross loans
Net charge-offs/Average gross loans
Regulatory capital arbitrage
Capital funds/Customer deposits and short term funding Capital funds/Net loans
Capital funds/Total assets
Equity/Liabilities
Equity/Total assets
Tier 1 ratio
Total capital adequacy ratio
Performance
Return on assets
Return on equity
Cost to income ratio

37

L1
L2
L3
L4
L5
L6
R
R1
R2
R3
R4
R5
C

+
+
+

C1

-

C2
C3
C4
C5
C6
C7

-

ROAA
ROAE
CIR

+

+
+
+
+
+

3.2.2. Analytic model

3.2.2.1. Univariate analysis

First of all, from the value of explanatory variables, we demonstrate a univariate analysis by comparing those ratios between two groups of UK banks: securitising banks and non-securitising banks to find out the main differences among those groups and the crucial motivators for those banks engaged in securitisation.

Next, we analyse the change in those variables over the given years by building histograms. For the case study, we also analyse four main variables: liquidity, credit risk transfer and regulatory capital arbitrage and bank performance between Northern Rock and Lloyds TSB, similarly.

3.2.2.2. Multivariate analysis

To explain the relationship between above variables and the probability of securitisation, we follow an empirical study conducted by CardoneRiportella et al., 2010) in a multivariate analysis using a logistic regression model. With simultaneous concern of the various sources over the years, this subsequent multivariate method will explore how those explanatory variables impact on bank‟s securitization behaviour in a logit framework.

Logistic regression model is employed to analyse the relationship among variables when the dependent variable. In this study, to choose securitisation or not, is dichotomous and other independent numerical variables are diversified. Specifically, this regression is used when we need to acquire a function in order to predict the affect of a mass of independent indices on the dependent variables. In this case, those variables are a bank‟s characteristics explained above which may influence on a bank‟s decision in the development of securitisation.
Consequently, the dependent variables; securitise or not, take the value 0
38

if a bank may not intend to participate in securitisation market. Otherwise, this variables take on the value 1 when that bank becomes an asset securitisation originator at least one transaction.

In particular, four groups of variables including liquidity, regulatory capital arbitrage, credit risk transfer, performance improvement are placed in a formula as being responsible for a bank‟s securitisation decision.
Therefore, whether a bank involved in securitisation or not is a function of those variables.

The logistic equation is as the following Cumulative Distribution Function for a Logit model:

Where, Lij,t-1 denote the liquidity ratios, Rik,t-1 denote the credit risk transfer ratios Cil,t-1 denote the regulatory capital arbitrage ratios.

Yi,t is the log odds of the dependent variable for the i th case in the tth period, a is a constant and b, c, d, e, f, g terms are the logistic regression coefficients, also called parameter estimates.

If bank i securitised over the given period at least one transaction, Y takes the value 1. If bank i did not securitise any its asset at all, Y takes the value 0.

In the above formula, all explanatory variables are entered in the equation and lagged one period to avoid potential endogenous problems.
Therefore, the relationship between the dependent variable Yi and the

39

probability Pr that one securitising transaction is recorded over the given period is expressed as:

Or the probability of securitisation can be estimated as:

In order to obtain an appropriate result, this thesis will consider both univariate and multivariate analysis to give the conclusion which factors impact banks‟ decision to securitise assets and which motives is the most prerequisite. 40

CHAPTER 4: RESULTS AND DISCUSSION
This chapter will provide the univariate analysis and multivariate analysis between banks securitised assets and banks did not during the period from 2000 to 2010; and the univariate analysis between Northern Rock bank and Lloyds TSB banks from 2000 to 2007.

4.1. Univariate analysis

The content of this part includes a univariate analysis between UK securitising banks

and

non-securitising

banks,

an

overview

of

securitisation and a univariate between Northern Rock bank and Lloyds
TSB banks.

4.1.1. UK banks analysis

In this part, we will demonstrate a range of descriptive statistics of dataset from UK banks. Through the table 3, 4, 5 and histograms below, numerous general observations can be given.

4.1.1.1. Liquidity

It is recorded that the Interbank Ratio (L1) is higher in banks that did not securitise their assets (over 150% for non securitising banks against approximately 150% for securitising banks over the years) and the means
(and medians) for each group are 212.87% (135.44%) and 138.30%
(90.15%), respectively. This would indicate that the entities which resort to securitisation is a net funding borrower in the wholesale market.

Therefore, this output can be interpreted as tentative evidence that entities which are involved in asset securitisation to seek a new funding source in order to improve their financial position; hence, the real sign is
41

negative as expected. In comparison with European Union and the United states as the table above at 135.3% and 128.4%, respectively, UK banks less depends on the interbank market for funding.

Table 3: Descriptive statistics for securitising banks

Ratios
Liquidity
Interbank ratio (L1)
Liquid assets/Deposit & shortterm funding (L2)
Liquid assets/Total deposit & borrowing (L3)
Net loans/Deposit & short-term funding (L4)
Net loans/Total assets (L5)
Net loans/Tot deposit & borrowing (L6)
Credit risk transfer
Impaired loans/Equity (C1)
Impaired loans/Gross loans (C2)
Loan loss provision/Net interest
(C3)
Loan loss reserves/Gross loans
(C4)
NCO/Average gross loans
Regulatory capital Arbitrage
Capital funds/Deposit & shortterm funding (R1)
Capital funds/Net loans (R2)
Capital funds/Total assets (R3)
Equity/Liabilities (R4)
Equity/Total assets (R5)
Tier 1 Ratio (R6)
Total Capital Ratio (R7)
Performance
Return on average assets
(ROAA)
Return on average equity
(ROAE)
Cost to income ratio (CIR)

N

Mean

Median

57 138.2976 90.151

Std.dev

Skewness

155.1256 2.573761

57 60.43481 38.3355 78.81172 5.234077
57 48.8053

32.384

69.83465 6.551052

57 67.28455 62.3655 68.0628

5.147586

57 41.25275 41.486

29.52471 0.156083

57 55.12696 56.088

37.6248

57 26.02666 16.395
57 4.214672 2.0565

37.19863 3.684002
8.041214 7.359581

57 21.14977 13.242

57.02232 -2.35173

57 3.363243 1.393

6.451517 5.284991

57 0.965674 0.466

2.137546 6.713278

57 29.74077 12.727

57.21356 5.262757

57
57
57
57
57
57

20.1935
9.0865
7.55
6.838
10.1
14.1

149.0058
13.88753
61.06805
14.1986
7.106194
5.334214

0.6035

2.874574 -3.21639

72.89985
13.60622
22.25261
11.98405
12.44305
15.68814

57 0.68896

0.579955

3.678008
2.731343
8.241527
2.579496
2.83183
1.795435

57 6.097356 8.316

25.37102 -7.97246

57 66.9484

38.6192

Source: Bankscope
42

60.157

3.4723

Table 4: Descriptive statistics for non-securitising banks
Ratios

N

Mean

Median

Std.dev

Skewness

Liquidity
Interbank ratio (L1)
Liquid assets/Deposit & short-term funding (L2)
Liquid assets/Total deposit
& borrowing (L3)
Net loans/Deposit & shortterm funding (L4)
Net loans/Total assets (L5)
Net loans/Tot deposit & borrowing (L6)

64 212.8708 135.4495 217.5462 1.634197
64 72.76297 59.518

97.86764 5.364516

64 63.80193 56.061

72.37283 6.177493

64 46.16439 37.648

56.16421 9.205131

64 33.66477 30.797

24.6615

64 46.08453 39.479

42.90489 6.169548

64 24.93766 9.559

44.82992 3.611638

64 7.717055 2.784

14.74809 3.549117

64 17.19191 2.778

56.38002 2.334467

64 4.168884 1.818

8.167233 4.665211

64 1.1553

3.706497 3.729769

0.730723

Credit risk transfer
Impaired loans/Equity (C1)
Impaired loans/Gross loans (C2)
Loan loss provision/Net interest (C3)
Loan loss reserves/Gross loans (C4)
NCO/Average gross loans
Regulatory capital
Arbitrage
Capital funds/Deposit & short-term funding (R1)
Capital funds/Net loans
(R2)
Capital funds/Total assets
(R3)
Equity/Liabilities (R4)
Equity/Total assets (R5)
Tier 1 Ratio (R6)
Total Capital Ratio (R7)

0.175

64 24.78384 14.1365

54.40345 10.31956

64 85.80608 44.578

106.4813 2.944708

64 16.60519 12.0915

15.57023 2.864645

64
64
64
64

86.36058
19.41717
20.18261
19.5239

32.73693
18.12398
21.27247
25.54783

13.494
11.9765
14.64
19.7

6.38836
2.49788
4.011642
3.651949

Performance
Return on average assets
(ROAA)
Return on average equity
(ROAE)
Cost to income ratio (CIR)

64 0.698653 0.5685

4.760169 2.386393

64 6.955436 4.7835

16.68342 1.641471

64 71.6553

51.4885

Source: Bankscope

43

65.845

5.7718

Table 5: World average values for the ratios (Source: Bankscope)
Ratios
Liquidity
Interbank ratio (L1)
Liquid assets/Deposit & short-term funding (L2)
Liquid assets/Total deposit & borrowing (L3)
Net loans/Deposit & short-term funding (L4)
Net loans/Total assets (L5)
Net loans/Tot deposit & borrowing (L6)
Credit risk transfer
Impaired loans/Equity (C1)
Impaired loans/Gross loans (C2)
Loan loss provision/Net interest (C3)
Loan loss reserves/Gross loans (C4)
NCO/Average gross loans
Regulatory capital Arbitrage
Capital funds/Deposit & short-term funding (R1)
Capital funds/Net loans (R2)
Capital funds/Total assets (R3)
Equity/Liabilities (R4)
Equity/Total assets (R5)
Tier 1 Ratio (R6)
Total Capital Ratio (R7)
Performance
Return on average assets (ROAA)
Return on average equity (ROAE)
Cost to income ratio (CIR)

UK

securitising banks

non-securitising banks EU

US

Japan

China

171.10
66.81
56.01
56.51
37.38
50.80

138.30
60.43
48.81
67.28
41.25
55.13

25.61
5.53
19.25
3.75
1.04

26.03
4.21
21.15
3.36
0.97

24.94
7.72
17.19
4.17
1.16

42.93
5.53
24.86
3.41
0.84

11.96
1.56
13.49
1.46
0.52

117.05
8.83
29.90
3.77
2.11

41.83
4.62
23.48
2.44
0.61

12.97
1.72
25.67
1.53
0.46

27.41
79.16
15.02
27.67
15.17
15.13
19.39

29.74
72.90
13.61
22.25
11.98
12.44
15.69

24.78
85.81
16.61
32.74
18.12
21.27
25.55

18.35
27.11
10.15
21.63
11.94
16.17
18.07

15.90
21.01
12.11
16.80
11.95
20.23
21.37

14.37
13.42
6.54
9.60
7.06
16.50
32.22

25.48
25.77
10.51
21.63
12.50
15.29
16.52

27.61
41.87
12.50
35.61
13.29
2.68
15.19

0.69
6.54
69.16

0.69
6.10
66.94

0.70
6.96
71.65

1.13
9.02
69.23

1.26
11.35
73.20

0.45
6.77
75.90

1.01
13.53
49.34

1.67
19.33
64.29

44

212.87 135.29 128.43 297.55 302.91
72.76
35.13 13.74
33.53
40.65
63.80
27.39 12.85
25.66
34.82
46.16
81.43 77.26
72.12
72.63
33.66
56.45 63.74
53.83
51.64
46.08
67.20 73.04
61.17
60.40

Australia
138.49
60.78
30.55
123.06
62.86
77.94

Figure 4: Interbank ratio-L1

Ratio (%)
350
300

non-securitising banks' mean

250

securitising banks' mean 200
150

non-securitising banks' median

100
50

securitising banks' median 0
20002001200220032004200520062007200820092010
Year

The mean (median) of liquid assets to deposits and short-term funding
(L2) is 72.76% (59.51%) for banks that did not securitise in comparison with 60.43% (38.33%) for those that securitised. Therefore, nonsecuritising banks are more liquid than securitising banks; then, nonsecuritising entities may employ asset backed securitisation as a method to improve their liquidity and respond their need for business activities funding. Again, this ratio for UK banks is mostly higher than that for other areas in the world; hence UK banks may be more liquid than others.

Figure 5: Liquid Assets/Deposit & short-term funding-L2

Ratio (%)
100
90
80
70
60
50
40
30
20
10
0

non-securitising banks' mean securitising banks' mean non-securitising banks' median securitising banks' median 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

45

Year

The third liquidity ratio - Liquid Assets to total Deposit and borrowing (L3) also shows a similar result (63.8% for non-securitising banks and 48.81% for securitising banks). Again, it is tentatively recommended that UK banks securitise theirs assets for the purpose of raising funds.

Figure 6: Liquid Assets/Total deposit & borrowing-L3

Ratio (%)
90
80 non-securitising banks' mean securitising banks' mean non-securitising banks' median securitising banks' median 70
60
50
40
30
20
10
0

Year
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

The second and the third liquidity ratio (L2, L3) may suggest that UK banks are highly liquid in general because those ratio are also higher than that of European Union, the United State and other developed countries
(see table 5). Moreover, it is notable that the ratios for both groups of UK banks are higher than other countries.

With respect to the last three liquidity ratios (i.e. L4, L5 and L6), the ratios of securitising banks are always dramatically higher than non-securitising banks over the given years (for L4 mean: 67.28% for securitising banks,
46.16% for non-securitising banks; for L5 mean: 41.25% and 33.66%; for
L6 mean: 55.13% and 46.08%, respectively). It indicates that the expected sign is true in the case of UK banks and banks with those higher ratios are inclined to process securitisation. Similarly, these ratios are higher than those in other countries, confirming the fact of the high liquidity of UK banks compared to the world average.
46

Figure 7: Net loans/Deposit & short-term funding-L4
Ratio (%)
90
80
70
60
50
40
30
20
10
0

non-securitising banks' mean securitising banks' mean non-securitising banks' median securitising banks' median Year
20002001200220032004200520062007200820092010

Figure 8: Net Loans/Total assets-L5
Ratio (%)
60
50

non-securitising banks' mean

40
30

securitising banks' mean 20

non-securitising banks' median

10

securitising banks' median 0
20002001200220032004200520062007200820092010

Year

Figure 9: Net loans/Total deposit & borrowing-L6
Ratio (%)
70
60 non-securitising banks' mean

50
40

securitising banks' mean 30
20

non-securitising banks' median

10

securitising banks' median 0

Year
20002001200220032004200520062007200820092010

47

Generally, all of these liquidity variables seem to demonstrate that UK banks which engaged in securitisation perform a lower liquidity than those that did not on average.

4.1.1.2. Credit risk transfer

We are now considering the credit risk transfer ratios regarding the first ratio-Impaired loans to equity (R1). The mean (median) for each group over the period from 2000 to 2010 is 26.03% (16.39%) for securitising bank, higher than non-securitising bank at 24.94% (9.56%). However, this ratio does not show the stable tendency over the given period between two groups of banks, which suggests weak evidence that UK banks securitised assets to improve this ratio.

Figure 10: Impaired loans / equity-R1

Ratio (%)
60
50

non-securitising banks' mean

40
30

securitising banks' mean

20

non-securitising banks' median

10

securitising banks' median

0

Year
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

The non-performing loans to gross loans (R2) ratio shows an opposite sign with the expected sign when this ratio of non-securitising banks are almost higher than that of securitising banks (the mean (median): 4.21%
(2.05%) for securitising banks and 7.72% (2.78%) for non-securitising banks). Therefore, this ratio is not the indicator for banks to conduct securitisation process.
48

Figure 11: Non-performing loans/Gross loans-R2
Ratio (%)
16
14 non-securitising banks' mean

12
10

securitising banks' mean 8
6

non-securitising banks' median

4

securitising banks' median 2
0

Year
20002001200220032004200520062007200820092010

We continue with the loan loss to net interest income (R3) ratio (Mean
(median) is 21.15% (13.24%) for securitising banks and 17.19% (2.77%) for non-securitising banks). It is recognised that banks with higher loan loss to net interest income tend to securitise their assets; hereby, this ratio may be one of indicator for banks choosing securitisation.
Figure 12: Loan loss/Net interest income-R3
Ratio (%)
80
70 non-securitising banks' mean

60
50

securitising banks' mean 40

non-securitising banks' median

30
20

securitising banks' median 10
0
20002001200220032004200520062007200820092010

Year

The R4 ratio mean (median) is 3.36% (1.39%) for banks using securitisation compared with 4.17% (1.18%) for banks that did not securitise, which confirms a worse result for the unexpected sign.
49

Figure 13: Loan loss reserve/Gross loans-R4

Ratio (%)
7
6

non-securitising banks' mean

5
4

securitising banks' mean 3
2

non-securitising banks' median

1

securitising banks' median 0
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

Year

Similarly, the conversed sign comes true in last credit risk transfer ratio –
Net charged-off to average gross loans (R5) in the means (median)
0.97% (0.46%) for securitising banks and 1.16% (0.175%) for nonsecuritising banks.

Figure 14: NCO/Average gross loans-R5

Ratio (%)
3.5
3

non-securitising banks' mean

2.5

securitising banks' mean 2
1.5

non-securitising banks' median

1

securitising banks' median 0.5
0
20002001200220032004200520062007200820092010

Year

In those variables, only R3 ratio demonstrates a clear expected sign that banks with this higher ratio are likely to securitise than others. As a result,
50

it cannot be strong evidence that UK banks securitise their assets to transfer credit risk.

4.1.1.3. Regulatory capital Arbitrage

Next, we analyse the regulatory capital arbitrage ratios. The three first ratios do not show the clear trend over the years between two groups.
Therefore, we rely on the mean (and median) of the previous table for securitising banks and non-securitising bank with 29.74% (17.72%) and
24.78% (14.13%) of capital funds to customer deposits and short-term funding C1 (unexpected sign); 72.9% (20.19%) and 85.81% (44.57%) of capital funds to net loans C2 (expected sign); 13.61% (9.08%) and
16.61% (12.09%) of capital funds to total assets C3 (expected sign), respectively. Those three ratios are slightly higher than other countries‟ ratios whilst European C1, C2, C3 means are 18.35%, 27.11%, and
10.15% and the US ratios are 15.9%, 21.01%, 12.11%, respectively.

Figure 15: Capital funds/Deposit & short-term funding-C1

Ratio (%)
45
40

non-securitising banks' mean

35
30

securitising banks' mean

25
20

non-securitising banks' median

15
10

securitising banks' median

5
0
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

Year

C2 and C3 ratios illustrate an expected sign on average; hence, it is suggested that banks may use securitisation with the purpose of improving those ratios.
51

Figure 16: Capital Funds/Net loans-C2

Ratio (%)
140
120

non-securitising banks' mean

100

securitising banks' mean

80
60

non-securitising banks' median

40

securitising banks' median

20
0
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

Year

Figure 17: Capital Funds/Total assets-C3

Ratio (%)
25
20

non-securitising banks' mean

15

securitising banks' mean 10

non-securitising banks' median

5

securitising banks' median 0
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

Year

From the histograms and Table 5, the equity to liabilities (C4) and equity to total assets ratios (C5) for non-securitising bank are mostly higher than that for securitising banks (mean (median): 32.74% (13.49%) and 22.25%
(77.55%) for C4, 18.12% (11.97%) and 11.98% (6.93%) for C5), also true over the years. These ratios may suggest that UK banks which develop securitisation programs seem to have a lower cushion or protection than entities that do not resort it.
52

Figure 18: Equity/Liabilities-C4

Ratio (%)
50
45
40
35
30
25
20
15
10
5
0

non-securitising banks' mean securitising banks' mean non-securitising banks' median securitising banks' median

20002001200220032004200520062007200820092010

Year

Figure 19: Equity/Total assets-C5

Ratio (%)
25
20

non-securitising banks' mean

15

securitising banks' mean 10

non-securitising banks' median

5

securitising banks' median 0
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

Year

Banks which securitise assets (see table 5) have a lower Tier 1 ratio (C6) and Total Capital adequacy ratio (C7) (12.44% and 15.69%), on average than those banks do not (21.27% and 25.55%). It is also important to note that in both cases, the ratio is significantly higher than the minimum 8% expected under Basel capital agreements. This may indicate that in general, banks may resort securitization in order to improve those ratios.

53

Figure20: Tier 1 Ratio-C6
Ratio (%)
70
60

non-securitising banks' mean

50

securitising banks' mean 40
30

non-securitising banks' median

20

securitising banks' median 10
0
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

Year

Figure 21: Total capital ratio-C7
Ratio (%)
50
45
40
35
30
25
20
15
10
5
0

non-securitising banks' mean securitising banks' mean non-securitising banks' median securitising banks' median 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

Year

In this group, only capital funds to deposit and short term funding (C1) implies an unexpected sign; hereby, it may suggest that UK banks conduct securitisation because of regulatory capital arbitrage. A later multivariate analysis will provide a clearer result for these proxies.

4.1.1.4. Performance

In this case, the ratios employed to measure the bank‟s performance, namely, return on average assets (ROAA), return on average equity
(ROAE), cost to income (CIR) yield different results and unstable trends.
However, on average, those ratios, except CIR, the ratio for securitising banks are lower than that for non-securitising unities (0.69% and 0.7% for
54

ROAA - expected sign, 6.1% and 6.96% for ROAE - expected sign,
66.04% and 71.42% for CIR - contrary sign).

However, the median of ROAA and ROAE show the opposite result with the means as ROAA of securitising banks is 0.6% and non-securitising banks is 0.56%, ROAE are 6.1 % and 6.96%, respectively, as a result of the appearance of several abnormal data; for example, the run of
Northern Rock in 2007 with minus ROAA and ROAE. This univariate analysis does not highly suggest that securitisation is implemented as a way to improve bank‟s efficiency.

Figure 22: Return on average assets-ROAA
Ratio (%)
3
2.5

non-securitising banks' mean

2

securitising banks' mean 1.5

non-securitising banks' median

1

securitising banks' median 0.5
0
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

Year

Figure 23: Return on average equity-ROAE
Ratio (%)
16
14

non-securitising banks' mean

12

securitising banks' mean

10
8

non-securitising banks' median

6
4

securitising banks' median

2
0
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

55

Year

Figure 24: Cost to income ratio-CIR

Ratio (%)
90
80 non-securitising banks' mean

70
60

securitising banks' mean

50
40

non-securitising banks' median

30

securitising banks' median

20
10
0
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

Year

In summary, at the univariate level, significant differences exist in terms of mean levels of liquidity ratios over the given years between the banks that securitised versus financial entities did not. In addition, other considered variables (Impaired loans to equity R1, loan loss/net interest R3, capital arbitrage ratios excluding C1 also imply the different behaviour between two groups as the expected sign.

Therefore, on average, those banks that securitise present lower liquidity, lower capital ratio. The subsequent multivariate analysis will confirm whether those variables have statistical significance.

The following table demonstrates the real sign for the decision to securitise assets in comparison with the expected signs mentioned above.

56

Table 6: Unvariate analysis results between UK securitising banks and non-securitising banks

Expected

Univariate

signs

analysis

Interbank ratio (L1)
Liquid assets/Deposit & short-term funding
(L2)
Liquid assets/Total deposit & borrowing (L3)

-

-

-

-

-

-

Net loans/Deposit & short-term funding (L4)

+

+

Net loans/Total assets (L5)

+

+

Net loans/Tot deposit & borrowing (L6)

+

+

Impaired loans/Equity (C1)

+

+

Impaired loans/Gross loans (C2)

+

-

Loan loss provision/Net interest (C3)

+

+

Loan loss reserves/Gross loans (C4)

+

-

NCO/Average gross loans

+

-

Regulatory capital Arbitrage
Capital funds/Deposit & short-term funding
(R1)
Capital funds/Net loans (R2)

-

+

-

-

Capital funds/Total assets (R3)

-

-

Equity/Liabilities (R4)

-

-

Equity/Total assets (R5)

-

-

Tier 1 Ratio (R6)

-

-

Total Capital Ratio (R7)

-

-

Return on average assets (ROAA)

-

N/A

Return on average equity (ROAE)

-

N/A

Cost to income ratio (CIR)

+

-

Variables
Liquidity

Credit risk transfer

Performance

57

4.1.2. Comparison between Northern Rock and Lloyds TSB

4.1.2.1. Overview of securitisation between Northern Rock and
Lloyds TSB (2000 – 2007)

Northern Rock bank which started as a building society in Newcastle upon
Tyne in 1965 became a listed bank in 1997 by expanding and acquiring other small building societies. Northern Rock was the fifth largest bank in granting residential mortgages in the UK by 2007 (Shin, 2009). During the first 6 months of 2007, this bank provided approximately £10.7 billion of residential mortgages with its repayment net accounting for 18.9% share of the UK net mortgage loans. Northern Rock bank obtained that growth thanks to the difference in the narrow margin of what Northern Rock must pay for their funds and what its borrowers must pay for mortgage‟s interests in mortgage products (National Audit Office, 2009).

Northern Rock obtained funds mainly by three methods, namely, retail and commercial deposits, short-term inter-bank lending from other banks or financial institutions or by using securitisation. However, for that rapid growth, securitisation played a crucial role in Northern Rock (See Table 7).

Northern Rock launched successfully the first securitisation in 1999 with
£600 million mortgage-backed securities; then, securitisation has become an important funding source, enabling Northern Rock bank obtained a rapid growth rate and capital efficiency (Northern Rock Bank‟s annual and interim reports, 2000 - 2007). Specifically, Northern Rock sold its mortgages via securitisation and obtained fund from that process. To meet the timing gap between its securitisation programs, Northern Rock got short term loans from wholesale money markets. Northern Rock has implemented this model for several years and grew rapidly in its business activities (Walters, 2008).

58

As a result of the influence from American sub-prime mortgages in 2007, investors have reduced the mortgage backed assets purchase (BIS,
2009). Nevertheless, Northern Rock planned to securitise approximately
£4 billion of mortgage assets via a SPV called Granite in 08/2007. Due to the abnormal market condition, securitisation was not implemented as expected; hence, this bank was vulnerable to liquidity crunch when it could not raise money18, even in wholesale market and nationalised in
2007 (Brummer, 2008).
Table 7: Northern Rock bank’s Liabilities, 2000-2007 (£million)
Northern
Rock
Deposits by banks Loans from central bank
Customer
accounts
Securitised
notes
Others
Total liabilities Equity
Total
liabilities and equity 2000

2001

2002

2003

2004

2005

2006

2007

875

989

1,205

1,462

1,202

1,537

2,136

744

-

-

-

-

-

-

-

28,473

13,941

15,821

17,944

18,797

20,342

23,673

26,868

11,563

2,050

3,000

5,668

7,730

11,100

31,156

40,226

43,070

4,563

5,236

6,638

7,784

8,605

23,731

28,967

23,169

21,429

25,046

31,456

35,772

41,248

80,097

98,197

107,018

1,126

1,363

1,210

1,388

1,542

2,611

2,814

2,303

22,554

26,409

32,665

37,160

42,790

82,709

101,011

109,321

Source: Northern Rock Bank‟s annual and interim reports, 2000 – 2007
Figure 25: Northern Rock bank’s Liabilities, 2000-2007
£million
120,000
Equity

100,000
80,000

Deposits by banks

60,000

Others

40,000

Securitised notes

20,000

Customer accounts
Loans from central bank

2000 2001 2002 2003 2004 2005 2006 2007

Year

Source: Northern Rock Bank‟s annual and interim reports, 2000 – 2007
18

“After subprime mortgage crisis, Northern Rock was unable acquire funding from money market because of credit freeze and in September 2007, Northern Rock was forced to a bailout from the Bank of England. The funding sources of Northern Rock, one of the five largest British mortgage lenders, mostly relied on wholesale money markets and securitization of mortgages instead of customer deposits. So it is extremely lack of stable funding sources” (Brummer, 2008)

59

Lloyds TSB bank was established in 1996 as a result of merger between
Lloyds Bank and the TSB. Lloyds TSB‟s history followed an expand of acquisition and merger in the UK, Europe and even in South America, especially before 1923, this bank had finished 50 takeovers, becoming one of largest and standing bank in the UK (Howcroft, 2005).

As opposed to Northern Rock business model, Lloyds TSB has a strong liquidity position thanks to its stable and strong customer deposits including retail and corporate deposits (See Table 8 and Figure 26).
Therefore, Lloyds TSB remained its higher credit rating; in 2008, Lloyds
TSB obtained AAA long term debt rating from Moody and continued to fund itself well and more diversified its sources of funding.

Lloyds TSB undertook securitisation as a method to mitigate credit risk. Its loans and advances to customer have been securitised including residential mortgages and commercial loans. The total residential mortgages amount subject to securitisation Lloyds TSB issued was
£46,284 million in 2007 in comparison with £14,927 million in 2006
(Lloyds TSB Bank‟s annual and interim reports, 2000 – 2007).

Table 8: Lloyds TSB bank’s Liabilities, 2000-2007 (£million)
Lloyds TSB
Deposits by banks Customer accounts Securitised notes Others
Total
liabilities
Equity
Total liabilities and equity 2000

2001

2002

2003

2004

2005

2006

2007

16735

24310

25443

23955

39738

31527

36394

39091

100738

109116

116334

116496

122062

131070

139342

156555

2025

3360

6739

6937

7053

10069

12377

12205

88195

87996

95539

94273

100417

126458

143978

133070

207693

224782

244055

241661

269270

299124

332091

340921

10289

11757

8703

10351

10573

10630

11507

12425

217982

236539

252758

252012

279843

309754

343598

353346

Source: Lloyds TSB Bank‟s annual and interim reports, 2000 – 2007

60

Figure 26: Lloyds TSB bank’s Liabilities, 2000-2007
£million
400000
350000
300000

Equity

250000

Deposits by banks

200000

Others

150000

Securitised notes

100000

Customer accounts

50000
0
2000

2001

2002

2003

2004

2005

2006

2007

Year

Source: Lloyds TSB Bank‟s annual and interim reports, 2000 – 2007

Regarding the total amount of securitised notes issued by Northern Rock and Lloyds TSB during 2000 to 2007 (see Figure 1), it can be seen that there is a significant difference when both banks started at nearly same point in 2000; after only four years, this figure for Northern Rock bank has increased dramatically and exceeded that for Lloyds TSB bank afterward.
Before being nationalised, Northern Rock issued total 43,070 million securitised notes compared with only 12,205 million in Lloyds TSB Bank.

Figure 27: Total amount of securitised notes issued by Northern
Rock and Lloyds TSB, 2000-2007
£million
50,000
45,000
40,000
35,000
30,000
25,000
20,000
15,000
10,000
5,000
-

Northern Rock Bank
Lloyds TSB Bank

Year
2000 2001 2002 2003 2004 2005 2006 2007

Source: Northern Rock and Lloyds TSB‟s reports, 2000-2007
61

It can be demonstrated that there has been a huge gap in the amount of securitisation issued by these two securitising banks. In the next part, we will analyse and distinguish these banks‟ characteristic to explore what reasons for Northern Rock Bank securitises their assets much more than
Lloyds TSB bank in an unvariate analysis.

4.1.2.2. Univariate analysis between Northern Rock and Lloyds TSB

In this part, we will conduct a univariate analysis of four groups of explanatory variables between Northern Rock and Lloyds TSB to understand the principal reason why Northern Rock was involved in securitisation much more than Lloyds TSB. The table 9, 10 will compare the mean and median value of those variables between Northern Rock and Lloyds TSB during the period from 2000 to 2007.

- Liquidity

In the first ratio, as the negative expected sign that banks with this higher ratio have less incentives to process securitisation programs. However, in this case, the interbank ratio of Northern Rock is always much higher than that of Lloyds TSB (with the mean is 88.789% for Lloyds TSB and
207.772 for Northern Rock and similar to the median value), except year
2007 when Northern Rock experienced the problems in raising short term funding from wholesale market as a result of credit crunch in US mortgage market in 2007. Consequently, interbank ratio is not a principal driver for Northern Rock involving in securitisation process.

62

Table 9: Variables between Northern Rock and Lloyds TSB

Variables
Liquidity
Interbank ratio (L1)
Liquid assets/Deposit & short-term funding (L2)
Liquid assets/Total deposit & borrowing
(L3)
Net loans/Deposit & short-term funding (L4)
Net loans/Total assets
(L5)
Net loans/Tot deposit & borrowing (L6)
Credit risk transfer
Impaired loans/Equity
(C1)
Impaired loans/Gross loans (C2)
Loan loss provision/Net interest (C3)
Loan loss reserves/Gross loans
(C4)
NCO/Average gross loans Regulatory capital
Arbitrage
Capital funds/Deposit & short-term funding (R1)
Capital funds/Net loans
(R2)
Capital funds/Total assets (R3)
Equity/Liabilities (R4)
Equity/Total assets
(R5)
Tier 1 Ratio (R6)
Total Capital Ratio (R7)
Performance
Return on average assets (ROAA)
Return on average equity (ROAE)
Cost to income ratio
(CIR)

Lloyds TSB
Northern Rock
Mean Median Std.dev Mean
Median Std.dev
88.789 85.22

16.182

207.772 244.05

110.456

29.437 18.60

18.012

11.841

11.26

6.788

26.317 17.80

14.479

7.120

6.73

3.151

88.632 87.98

6.987

163.457 102.06

92.230

61.505 62.25

5.654

80.712

79.76

5.870

81.699 81.85

2.384

88.068

88.72

4.051

33.912 32.99

4.755

5.205

1.94

7.276

2.501

0.300

0.171

0.08

0.193

20.157 19.04

5.892

13.064

10.93

8.835

1.167

1.160

0.068

0.306

0.31

0.111

0.613

0.60

0.080

0.111

0.097

0.056

12.825 12.96

0.906

11.147

10.45

2.131

14.554 14.66

1.576

8.229

9.23

3.043

9.008

8.78

1.678

6.490

7.36

2.050

5.281

4.83

1.424

3.570

3.92

0.878

4.786

4.41

1.204

3.325

3.61

0.772

8.400
8.15
10.063 10.35

0.646
1.121

8.568
13.650

8.60
13.96

0.621
1.239

1.147

0.363

0.567

0.77

0.371

23.547 23.05

5.391

16.244

19.80

10.015

45.831 52.80

16.824

33.542

33.72

12.277

2.52

0.95

63

Table 10: Means of variables between Northern Rock, Lloyds TSB and UK banks
Variables
Liquidity
Interbank ratio (L1)
Liquid assets/Deposit & short-term funding (L2)
Liquid assets/Total deposit & borrowing
(L3)
Net loans/Deposit & short-term funding (L4)
Net loans/Total assets
(L5)
Net loans/Tot deposit & borrowing (L6)
Credit risk transfer
Impaired loans/Equity
(C1)
Impaired loans/Gross loans (C2)
Loan loss provision/Net interest (C3)
Loan loss reserves/Gross loans
(C4)
NCO/Average gross loans Regulatory capital
Arbitrage
Capital funds/Deposit & short-term funding (R1)
Capital funds/Net loans
(R2)
Capital funds/Total assets (R3)
Equity/Liabilities (R4)
Equity/Total assets
(R5)
Tier 1 Ratio (R6)
Total Capital Ratio (R7)
Performance
Return on average assets (ROAA)
Return on average equity (ROAE)
Cost to income ratio
(CIR)

UK securitising bank

UK nonsecuritising bank 171.10

138.30

212.87

11.841

66.81

60.43

72.76

26.317

7.120

56.01

48.81

63.80

88.632

163.457

56.51

67.28

46.16

61.505

80.712

37.38

41.25

33.66

81.699

88.068

50.80

55.13

46.08

33.912

5.205

25.61

26.03

24.94

2.501

0.171

5.53

4.21

7.72

20.157

13.064

19.25

21.15

17.19

1.167

0.306

3.75

3.36

4.17

0.613

0.111

1.04

0.97

1.16

12.825

11.147

27.41

29.74

24.78

14.554

8.229

79.16

72.90

85.81

9.008

6.490

15.02

13.61

16.61

5.281

3.570

27.67

22.25

32.74

4.786

3.325

15.17

11.98

18.12

8.400
10.063

8.568
13.650

15.13
19.39

12.44
15.69

21.27
25.55

1.147

0.567

0.69

0.69

0.70

23.547

16.244

6.54

6.10

6.96

45.831

33.542

69.16

66.21

71.92

Lloyds
TSB

Northern
Rock Plc

88.789

207.772

29.437

64

UK

Figure 28: Interbank ratio (L1)
Ratio (%)
350.00
300.00
250.00
200.00

Lloyds TSB Bank Plc

150.00

Northern Rock Plc

100.00
50.00
0.00

Year
2000 2001 2002 2003 2004 2005 2006 2007

During the period from 2000 to 2007, the liquid assets to deposit and short-term funding ratio of Lloyds TSB always exceeded this ratio of
Northern Rock bank (with the mean (median) is 29.437% (18.6%) and
11.841% (11.26%), respectively). This result suggests that Northern Rock may be a less liquidity bank; thereby, this bank may resort securitisation to enhance this ratio to meet its funding needs. In comparison with UK banks, UK securitising and non-securitising banks (66.81%, 60.43%,
72.76%), it is recognised that Northern Rock‟ liquidity ratio is very low; hence, it may be the most important reason for Northern Rock‟ engagement in securitisation, becoming the bank with fifth biggest amount of securitisation (Goldsmith-Pinkham and Yorulmazer, 2010).
Figure 29: Liquid assets/Deposit & short-term funding-L2
Ratio (%)
60.00
50.00
40.00
30.00

Lloyds TSB Bank Plc

20.00

Northern Rock Plc

10.00
0.00

Year
2000 2001 2002 2003 2004 2005 2006 2007

Similar to L2, the third ratio, liquid assets to total deposit and borrowing ratio illustrates a same trend with this higher ratio for Lloyds TSB all the years. The mean of this ratio for these two banks (26.317% and 7.12%)
65

are lower than UK banks, UK securitising and non-securitising banks
(56.01%, 48.81%, 63.8%), recommending that both banks are less liquid than others. Again, it is predisposed that Northern Rock securitised its assets to improve this ratio and raise liquidity.
Figure 30: Liquid assets/Total deposit & borrowing-L3
Ratio (%)
50.00
40.00
30.00

Lloyds TSB Bank Plc

20.00

Northern Rock Plc

10.00
0.00
2000 2001 2002 2003 2004 2005 2006 2007

Year

Net loans to deposits and short-term funding ratio L4 of Northern Rock is much higher than that of Lloyds TSB, especially from year 2004. It indicates that a huge need for loans from Northern Rock Bank, as can be seen from annual and interim report with total net loans increasing from
32.8 million in 2004 to 98.8 million in 2007, three times only in 3 years. In this case, the result confirms an expected sign that a bank with this higher ratio tends to securitise much more than other bank with a lower ratio.
Figure 31: Net loans/Deposit & short-term funding-L4
Ratio (%)
350.00
300.00
250.00
200.00

Lloyds TSB Bank Plc

150.00

Northern Rock Plc

100.00
50.00
0.00

Year
2000 2001 2002 2003 2004 2005 2006 2007

The last two ratios, namely net loans to total assets L5 and net loans to total deposit and short-term borrowing L6 also indicate similar signs as expected with the higher ratios belonging to Northern Rock, resulting in
66

the fact that Northern Rock securitises its asset with the purpose of raising fund and seeking a new funding source.
Figure 32: Net loans/Total assets-L5
Ratio (%)
100.00
80.00
60.00

Lloyds TSB Bank Plc

40.00

Northern Rock Plc

20.00
0.00
2000 2001 2002 2003 2004 2005 2006 2007

Year

Figure 33: Net loans/Total deposit & borrowing-L6
Ratio (%)
100.00
80.00
60.00

Lloyds TSB Bank Plc

40.00

Northern Rock Plc

20.00
0.00

Year
2000 2001 2002 2003 2004 2005 2006 2007

In the first group of variables, it can be concluded that liquidity is one of decisive factors for Northern Rock to implement securitisation. This result is also consistent with the output analysed above between the UK securitising and non-securitising banks.

- Credit risk transfer

We are now considering the second group of credit risk transfer. From the diagrams for five variables, it is seen that all of them show a contrary results with the expectation. As expected above, a bank with lower ratios indicate a sound and strong bank; hence, the expected sign for five variables in this group is positive. However, Lloyds TSB always
67

demonstrates much higher ratios than Northern Rock over the year and on average. The result gives a conclusion that credit risk transfer is not a motive for Northern Rock‟s engagement in securitisation activities. This result shows a similar trend with the comparison analysed above between the UK securitising bank and non-securitising banks.

Figure 34: Impaired loans/Equity-R1
Ratio (%)
50.00
40.00
30.00

Lloyds TSB Bank Plc

20.00

Northern Rock Plc

10.00
0.00

Year
2000 2001 2002 2003 2004 2005 2006 2007

Figure 35: Impaired loans/Gross loans-R2
Ratio (%)
3.50
3.00
2.50
2.00
1.50
1.00
0.50
0.00

Lloyds TSB Bank Plc
Northern Rock Plc

Year

2000 2001 2002 2003 2004 2005 2006 2007

Figure 36: Loan loss/ Net interest income-R3
Ratio (%)
40.00
35.00
30.00
25.00
20.00
15.00
10.00
5.00
0.00

Lloyds TSB Bank Plc
Northern Rock Plc

Year

2000 2001 2002 2003 2004 2005 2006 2007

68

Figure 37: Loan loss reserve/Gross loans-R4
Ratio (%)
1.50
1.00
Lloyds TSB Bank Plc
0.50

Northern Rock Plc

0.00

Year
2000 2001 2002 2003 2004 2005 2006 2007

Figure 38: NCO/Average gross loans-R5
Ratio (%)
0.80
0.60
Lloyds TSB Bank Plc

0.40

Northern Rock Plc

0.20
0.00

Year
2000 2001 2002 2003 2004 2005 2006 2007

- Regulatory capital Arbitrage
The capital funds to deposit and short-term funding ratio (C1) illustrate the expected sign when this ratio for Lloyds TSB is higher than that for
Northern Rock from 2000 to 2005; however, a contrary trend is revealed from 2005 to 2007. In average, it still show the same result when the mean (median) for Lloyds TSB is 12.825% (12.96%) and 11.147%
(10.45%) for Northern Rock.
Figure 39: Capital funds/Deposit & short-term funding-C1
Ratio (%)
16.00
14.00
12.00
10.00
8.00
6.00
4.00
2.00
0.00

Lloyds TSB Bank Plc
Northern Rock Plc

Year

2000 2001 2002 2003 2004 2005 2006 2007

69

The next four proxies have similar trends that those ratios of Lloyds TSB are higher than that of Northern Rock, consistent with the regulatory capital arbitrage hypothesis that a bank with less regulatory capital ratios is inclined to reach a strong incentive to securitise its assets. This expectation turns out true in the case of Northern Rock bank.

When comparing with UK banks, securitising or non-securitising banks, it can be recorded that those ratios of Northern Rock are much lower than others. It can be a reason why Northern Rock became the fifth largest mortgage lender in the UK (Goldsmith-Pinkham and Yorulmazer, 2010).

Figure 40: Capital funds/Net loans-C2

Ratio (%)
18.00
16.00
14.00
12.00
10.00
8.00
6.00
4.00
2.00
0.00

Lloyds TSB Bank Plc
Northern Rock Plc

Year

2000 2001 2002 2003 2004 2005 2006 2007

Figure 41: Capital funds/Total assets-C3

Ratio (%)
12.00
10.00
8.00
6.00

Lloyds TSB Bank Plc

4.00

Northern Rock Plc

2.00
0.00

Year
2000 2001 2002 2003 2004 2005 2006 2007

70

Figure 42: Equity/Liabilities-C4
Ratio (%)
8.00
6.00
Lloyds TSB Bank Plc

4.00

Northern Rock Plc

2.00
0.00

Year
2000 2001 2002 2003 2004 2005 2006 2007

Figure 43: Equity/Total assets-C5
Ratio (%)
8.00
7.00
6.00
5.00
4.00
3.00
2.00
1.00
0.00

Lloyds TSB Bank Plc
Northern Rock Plc

Year

2000 2001 2002 2003 2004 2005 2006 2007

Tier 1 ratio (C6) and total capital ratio (C7) do not show a clear result as expected that a bank with higher value of this variable indicates a wellcapitalised bank and have less incentive to securitise it assets. Because the tier 1 ratio and total capital ratio of Northern Rock are 8.5% and
13.65% while they are 8.4% and 10.06% for Lloyds TSB on average. This result might suggest that tier 1 ratio and total capital ratio are not decisive factors for Northern Rock being active in securitisation market.
Figure 44: Tier 1 Ratio-C6
Ratio (%)
10
8
6

Lloyds TSB Bank Plc

4

Northern Rock Plc

2
0

Year
2000 2001 2002 2003 2004 2005 2006 2007

71

Figure 45: Total Capital Ratio-C7
Ratio (%)
20.00
15.00
Lloyds TSB Bank Plc

10.00

Northern Rock Plc

5.00
0.00

Year
2000 2001 2002 2003 2004 2005 2006 2007

In summary, five of seven variables in this group show the expected signs as motioned above. Therefore, regulatory capital arbitrage may be one motive for Northern Rock to securitise assets.
- Performance
From the diagram over 7 years, it can be realised that return on average assets ratios of Lloyds TSB is higher than that of Northern Rock; the mean (median) are 1.147% (0.95%) and 0.567% (0.77%), respectively), suggesting that improving ROAA may be one factor for Northern Rock following securitisation programs.
Figure 46: Return on average assets-ROAA
Ratio (%)
2.00
1.50
Lloyds TSB Bank Plc

1.00

Northern Rock Plc

0.50
0.00
-0.50

2000 2001 2002 2003 2004 2005 2006 2007

Year

Although the return on average equity ratio of Lloyds TSB is not always higher than that of Northern Rock over the years, the mean (median) turns out true with 23.547% (23.05%) and 16.2444% (19.8%), respectively. Similarly, it may recommend that ROAE is an element of securitisation decision in this case.
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Figure 47: Return on average equity-ROAE
Ratio (%)
40.00
30.00
20.00

Lloyds TSB Bank Plc

10.00

Northern Rock Plc

0.00
-10.00

2000 2001 2002 2003 2004 2005 2006 2007

Year

-20.00

Contrary to last two ratios, cost to income ratio reveals a reverse sign when this ratio of Lloyds TSB is higher than that of Northern Rock, except year 2007, the year Northern Rock failed to liquidity crunch and was nationalised at the same time. As expected that a relatively higher ratio illustrates that that bank is not in good performance and it should be correlated with the probability of securitisation negatively, this result shows that CIR is not one driver of securitisation.
Figure 48: Cost to income ratio-CIR
Ratio (%)
70.00
60.00
50.00
40.00

Lloyds TSB Bank Plc

30.00

Northern Rock Plc

20.00
10.00
0.00

Year
2000

2002

2003

2004

2005

2006

2007

In the last group, two of three variables confirm expected signs. Therefore, in this univariate analysis, it is suggested that Northern Rock securitise to improve liquidity, regulatory capital arbitrage and performance.

With respect to the results in this part and last part, the table below will provide a clear overview.

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Table 11: Expected and real signs in UK securitising and nonsecuritising banks, Lloyds TSB and Northern Rock

Expected signs Lloyds
TSB and
Northern
Rock

-

-

+

-

Variables

UK securitising & nonsecuritising banks -

-

Liquidity
Interbank ratio (L1)
Liquid assets/Deposit & short-term funding (L2)
Liquid assets/Total deposit & borrowing (L3)
Net loans/Deposit & short-term funding (L4)
Net loans/Total assets (L5)
Net loans/Tot deposit & borrowing
(L6)
Credit risk transfer

-

-

-

+

+

+

+

+

+

+

+

+

Impaired loans/Equity (C1)

+

+

-

Impaired loans/Gross loans (C2)
Loan loss provision/Net interest
(C3)
Loan loss reserves/Gross loans
(C4)
NCO/Average gross loans

+

-

-

+

+

-

+

-

-

+

-

-

Regulatory capital Arbitrage
Capital funds/Deposit & short-term funding (R1)
Capital funds/Net loans (R2)

-

+

-

-

-

-

Capital funds/Total assets (R3)

-

-

-

Equity/Liabilities (R4)

-

-

-

Equity/Total assets (R5)

-

-

-

Tier 1 Ratio (R6)

-

-

+

Total Capital Ratio (R7)

-

-

+

Return on average assets (ROAA)

-

N/A

-

Return on average equity (ROAE)

-

N/A

-

Cost to income ratio (CIR)

+

-

-

Performance

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4.2. Multivariate analysis
Table 12: Logit Models; *significance at 1%; **significance at 5%;
***significance at 10%
Variables

Univariate
Expected
(UK sign banks)

Univariate
(Lloys
TSB &
Northern
Rock)

Coefficient

P

Liquidity
-

-

+

-0.0033807

0.000*

-

-

-

-0.0016835

0.471

-

-

-

-0.0036444

0.142

+

+

+

+0.0089999

0.061***

+

+

+

+0.0132929

0.069
***

+

+

+

+0.0074357

0.125

Impaired loans/Equity
(C1)
Impaired loans/Gross loans (C2)
Loan loss provision/Net interest (C3)
Loan loss reserves/Gross loans
(C4)
NCO/Average gross loans Regulatory capital
Arbitrage
Capital funds/Deposit & short-term funding (R1)
Capital funds/Net loans
(R2)
Capital funds/Total assets (R3)
Equity/Liabilities (R4)

+

+

-

-0.0037523

0.559

+

-

-

-0.0210057

0.154

+

+

-

+0.0112792

0.138

+

-

-

-0.0188665

0.409

+

-

-

+0.164114

0.070***

-

+

-

-0.0015439

0.507

-

-

-

+0.0015114

0.213

-

-

-

-0.0112504

0.340

-

-

-

-0.0003346

0.911

Equity/Total assets (R5)

-

-

-

-0.0161476

0.170

Tier 1 Ratio (R6)

-

-

+

-0.0695787

0.000 *

Total Capital Ratio (R7)

-

-

+

-0.134868

0.000 *

-

N/A

-

-0.0033365

0.956

-

N/A

-

-0.0049741

0.745

+

-

-

-0.0076031

0.172

Interbank ratio (L1)
Liquid assets/Deposit & short-term funding (L2)
Liquid assets/Total deposit & borrowing
(L3)
Net loans/Deposit & short-term funding (L4)
Net loans/Total assets
(L5)
Net loans/Tot deposit & borrowing (L6)
Credit risk transfer

Performance
Return on average assets (ROAA)
Return on average equity (ROAE)
Cost to income ratio
(CIR)

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After univariate analysis, we conduct a multivariate logistic regression analysis and fit the model in Equation (1), following Cardone-Riportella et al. (2010) with more variables than that study to find out the likelihood of involvement in securitisation using a sample of all UK banks listed above.
Table 12 shows empirical results via a multivariate logit regresson. The last three columns display the coefficient of each explanatory variable, the significance of variables and the odds ratio19.

As can be seen from the table, all of liquidity proxies have the signs of coefficients as the expected sign mentioned above. Moreover, three out of the six liquidity variables are significant statistically. Specifically, the
Interbank ratio (L1) is statistically significant (at 1%), Net loans to deposit and short-term funding (L4) and Net loans to total assets (L5) ratio are also significant (at 10%).

The negative signs as expected of liquidity

ratios and the statistic significances display that a bank which are in a position of higher fragile liquidity are likely to conduct securitisation activities. We are now turning to the credit risk transfer ratio. Only Loan loss to Net interest ratio (R3) and Net Charge-offs to Average Gross Loans ratio (R5) of this group indicates the coefficients as the expectation analysed that banks with higher credit risk transfer ratios have higher propensity to securitise assets. However, only Net charge-offs to average gross loans ratio (R5) reach significance in the logit regression at 10%. This result confirms weak evidence that employing securitisation is a mechanism for banks to transfer their credit risk to other parties. Therefore, this group of variables is not a relevant factor considered in this case.

Next, we analyse the third group of regulatory capital arbitrage ratios. It is recorded that except capital fund to net loans ratio, all other variables display the expected sign and Tier 1 ratio and Total Capital Adequacy
Ratio are significant statistically at 1%. Therefore, the regulatory capital
19

See Appendix 7: Logit regression (Minitab running)

76

arbitrage hypothesis is confirmed strongly by the logistic model, suggesting that UK banks employing securitisation as a tool for regulatory capital arbitrage.

With regard to performance ratio, Return on average Assets ratio (ROAA) and Return on average Equity ratio (ROAE) have the expected sign and cost-to-income ratio (CIR) is opposite to expected sign. However, no ratios show the statistic significance in the logit regression model.

Therefore, the Logit model suggests that liquidity which has the expected signs and significance is the most important driver of securitization in the
UK while the second motivation for UK banks to use securitization is regulatory capital arbitrage.

Combining the results in the logit regression with the univariate analysis in two scenarios between UK securitising banks and non-securitising banks;
Lloyds TSB bank and Northern Rock bank, it is strongly proved that liquidity need is the most important factor for UK banks deciding to involve in the securitisation process. The second significant driver confirmed in the empirical result of this thesis is regulatory capital arbitrage. In other words, UK banks securitise their assets to gain liquidity or seek the new funding sources. Also, they employ securitisation process as a method to obtain regulatory capital arbitrage, especially capital ratios.

Those results are consistent with the empirical analysis of all UK banks from 2000 to 2010 conducted by Cerrato et al. (2012) who confirmed that the principal driver for UK banks to process securitisation is the liquidity need to fund the bank‟s balance sheet and other motive which plays an important role is regulatory capital arbitrage. Moreover, these results also reinforce a range of literature reviews mentioned above such as MartínOliver and Saurina (2007), Cardone-Riportella et al. (2010), Affinito and
Tagliaferri (2010) that the seeking for new funding sources to improve

77

liquidity is the only decisive driver of securitisation in Italian and Spanish market. Besides, the results imply an important concern for financial regulators that banks do not resort securitisation as a mean to increase their risks or enhance profitability, confirming the opposite sign with hypothesis explained in the literature review such as Bannier and Hänsel (2008),
Affinito and Tagliaferri (2010), Martín-Oliver and Saurina (2007).

78

CHAPTER 5: ADVANTAGES, LIMITATIONS AND
RECOMMENDATIONS
5.1. Advantages
This thesis has the advantage in testing all UK banks that incorporated in the UK, authorised by FSA and updated on the day of the Bankstats publication during the period from 2000 to 2010, covering the period suffered a dramatic growth of securitisation by UK banks and the financial crisis in 2007 when securitisation is accused for that.

This dissertation also analyses the determinants of securitisation including four different groups and describes the amount of securitisation in the UK and between Lloyds TSB and Northern Rock.

In order to obtain a most appropriate result, this study employs both univariate and multivariate securitisation and gives the conclusion based on the combination of two methods. In univariate analysis, this thesis also uses both mean value and median value to avoid the discrepancy which is derived from the abnormal values in the final results.

5.2. Limitations
However, it is acknowledged that this analysis lacks the data of banks‟ merger and acquisition; hence unable to estimate the influence of banks‟ unobservable variables on the possibility of securitisation during the estimation period.

Moreover, this study bases on the analysis of coefficient and the degree of significance of each proxy on the likelihood of securitisation; then, if there is the increase in the probability due to the alteration of corresponding variables, those results are not informative.

79

The results suggest that liquidity need is the most decisive factor of securitisation; however, those variables are observed yearly during 10 years while liquidity is changing day by day for each bank. It is because banks‟ liquidity relies on wholesale market while this market is short term borrowing and lending, or even overnight market. Therefore, the yearly observation of those variables may not reflect the real funding need of each bank during estimated period.

Besides, to capture credit risk transfer variables, according to Cerrato et al. (2012), six ratios should be considered to obtain an appropriate result.
However, since the information of unreserved impaired loans to equity is unavailable for all samples, the size of measure for this group is decreased considerably. Regarding bank size which is analysed in literature review such as Uzun and Webb (2007), Bannier and Hänsel
(2008) that it plays a specific role in securitisation decision, this thesis, however, did not consider this variable.

5.3. Recommendations
First, in order to obtain a more reasonable result, further studies should expand the samples to all banks offering services including deposit and lending in the UK.

Moreover, other important variables such as market to book ratio, economic variables, bank size, bank type, and tax payment should be estimated in the logistic regression model to investigate the significance on securitisation decision.

Finally, further studies can be conducted associated with the types of securitisation such as CDO, CLO and theirs influence on banks‟ decision to securitise their assets.

80

CHAPTER 6: CONCLUSIONS
Securitisation is a process where an origination institution transfers assets or obligation legally and economically into a third party; for example a
SPV who issues ABS. The securitisation market is perceived as one of the most prominent financial innovation in recent decades. Despite the dramatic development of securitisation, there is ambiguous research on why banks securitise their assets.

The objectives of this thesis are investigating the characteristics of UK securitising banks and UK non-securitising banks in general and Northern
Rock bank and Lloyds TSB bank in particular. Moreover, this dissertation analyses the elements which impact banks‟ decision to implement securitisation and the most significant factors for UK banks to involve in this program. It also adds to recent empirical literature such as the results of Cerrato et al. (2012) that liquidity is the crucial motive for UK banks to securitise their assets and the confirmation of Cardone-Riportella et al.
(2010) that the fundamental drivers of securitisation are the need for liquidity and efficiency.

This thesis employs the sample of UK banks during the period from 2000 to 2010 from FSA and banks‟ annual accounting and financial statements.
This dissertation conducts both univariate and multivariate analysis via a logistic regression model applied from Cardone-Riportella et al. (2010) by using four groups of variables, namely liquidity needs, regulatory capital arbitrage, credit risk transfer and efficiency.

In conclusion, it is confirmed that liquidity and regulatory capital arbitrage are the decisive factors that underpin UK banks to securitise assets during the period from 2000 to 2010. It is also investigated that Northern
Rock was involved deeply in securitisation than Lloyds TSB as a result of seeking new funding sources. However, the logit regression model did not

81

prove that credit risk transfer and efficiency play a significant role in securitisation decision.

Nevertheless, there are still several limitations in this thesis such as the lack of the data of banks‟ merger and acquisition, the observation of liquidity day by day, the research of corresponding variables‟ change, the information of unreserved impaired loans to equity and the analysis of bank size variable.

Therefore, this issue should be researched further by controlling the type of assets which banks securitised, market to book ratio, economic variables, bank size, bank type, tax payment and the sample should be expanded to all UK banks.

82

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92

APPENDIX
Appendix 1: Securitisation process (Gorton and Souleles, 2006)
Figure 12.2 shows a schematic drawing of a typical securitization transaction. The diagram shows the two key steps in the securitization process: pooling and tranching.
(1) A sponsor or originator of receivables sets up the bankruptcy-remote
SPV, pools the receivables, and transfers them to the SPV as a true sale
(2) The cash flows are tranched into asset-backed securities, the most senior of which are rated and issued in the market
(3) The proceeds are used to purchase the receivables from the sponsor
(4) The pool revolves, in that over a period of time the principal received on the underlying receivables is used to purchase new receivables
(5) There is a final amortization period, during which all payments received from the receivables are used to pay down tranche principal amounts. Credit card receivables are different from other pools of underlying loans because the underlying loan to the consumer is a revolving credit; it has no natural maturity, unlike an automobile loan, for example. Consequently, the maturity of the SPV debt is determined arbitrarily by stating that receivable payments after a certain date are “principal” payments. Figure 49: Schematic drawing of a typical securitization transaction

I

Appendix 2: The securitisation issuance by Europe and the US

Table 13: European securitisation issuance (€Billions)

Source: SIFMA (2011)
Table 14: US securitisation issuance (€Billions)

Source: SIFMA (2011)

II

Table 15: Securitisation issuance separated by country in Europe and the US

Source: SIFMA (2011)
Appendix 3: 157 banks who incorporated in the United Kingdom20
No

Banks
Abbey National Treasury
Services Plc

No

Banks

80

HSBC Private Bank (UK) Ltd

2

ABC International Bank Plc

81

3
4

Access Bank UK Limited, The
Adam & Company Plc

82
83

5

ADIB (UK) Ltd

84

1

7
8
9

Agricultural Bank of China (UK)
Limited
Ahli United Bank (UK) Plc
AIB Group (UK) plc
Airdrie Savings Bank

10

Aldermore Bank Plc

89

11
12

Alliance Trust Savings Ltd
Allied Bank Philippines (UK) Plc

90
91

13

Alpha Bank London Limited

92

6

20

HSBC Trust Company (UK)
Ltd
ICBC (London) Plc
ICICI Bank UK Plc
Intercontinental Bank (UK)
Plc

85

Investec Bank Plc

86
87
88

Islamic Bank of Britain Plc
Jordan International Bank Plc
JP Morgan Europe Limited
JP Morgan International Bank
Ltd
JP Morgan Securities Ltd.
Julian Hodge Bank
Kaupthing Singer &
Friedlander Ltd

http://www.fsa.gov.uk/pages/library/other_publications/banks/index.shtml; [Assessed: 07/08/2012]

III

14
15

AMC Bank Limited
ANZ Bank (Europe) Limited

93
94

16

Arbuthnot Latham & Co. Ltd.

95

18

Banc of America Securities
Limited
Bank Leumi (UK) Plc

19

Bank Mandiri (Europe) Limited

98

20

Bank of Beirut (UK) Limited

99

21

Bank of Ceylon (UK) Ltd

100

17

22
23
24
25
26
27

96
97

Bank of China International (UK)
Ltd
Bank of Communications (UK)
Limited
Bank of Cyprus (London) Limited
Bank of Ireland (UK) Plc
Bank of London and The Middle
East plc
Bank of New York Mellon
(International) Ltd (The)

101
102

MBNA Europe Bank Ltd.

103
104

Melli Bank Plc
Methodist Chapel Aid Limited

105

Metro Bank PLC

106

Mizuho International Plc

28

Bank of Scotland Plc

107

29

Bank of the Philippine Islands
(Europe) PLC

108

30

Bank Saderat Plc

109

31

Bank Sepah International Plc

110

32

Barclays Bank Plc

111

34

Barclays Bank Trust Company
Limited
BIRA Finance Limited

35

BMCE Bank International Plc

33

37
38
39
40
41

112
113
114

British Arab Commercial Bank
Plc
Broadcastle Bank Limited
Brown, Shipley & Co Limited
Butterfield Bank (UK) Limited.
C. Hoare & Co
CAF Bank Ltd

36

43
44

115
116
117
118
119
120

cambridge and counties bank limited Cater Allen International Limited
Charity Bank Limited (The) 0

42

Kexim Bank (UK) Limited
Kingdom Bank Limited 0
Kleinwort Benson Bank
Limited
Kookmin Bank International
Ltd
Lloyds TSB Bank Plc
Lloyds TSB Private Banking
Ltd
Lloyds TSB Scotland plc
Macquarie Bank International
Ltd
Marks & Spencer Financial
Services Plc

Morgan Stanley Bank
International Limited
N M Rothschild & Sons
Limited
National Bank of Egypt (UK)
Limited
National Bank of Kuwait
(International) PLC
National Westminster Bank
Plc - NatWest
Nomura Bank International
Plc
Northern Bank Limited
Northern Rock (Asset
Management) Plc
Northern Trust Global
Services Ltd
OneSavings Bank Plc
Pensions Bank Limited
Persia International Bank Plc
PNB (EUROPE) PLC
Punjab National Bank
(International) Limited

121

QIB (UK) Plc

122

R Raphael & Sons Plc
Rathbone Investment
Management Limited

123

IV

46

China Construction Bank
(London) Limited
Church House Trust Plc

47

CIBC World Markets Plc

126

48
49
50
51
52
53
54
55

CIT Bank Limited
Citibank International Plc
Close Brothers Limited
Clydesdale Bank Plc
Consolidated Credits Bank Ltd
Co-operative Bank Plc (The)
Coutts & Co
Credit Suisse (UK) Limited

127
128
129
130
131
132
133
134

56

Credit Suisse International

135

57

Crown Agents Bank Ltd

136

58

DB UK Bank Limited

137

59
60

Duncan Lawrie Limited
EFG Private Bank Limited

138
139

61

Egg Banking Plc

140

62

Europe Arab Bank Plc

141

45

63
64
65
66
67
68
69
70
71
72
73
74
75
76
77
78
79

124
125

European Islamic Investment
Bank Plc
FBN Bank (UK) Limited
FCE Bank Plc
FIBI Bank (UK) Plc
Gatehouse Bank plc
GE Capital Bank Limited
Ghana International Bank Plc
Goldman Sachs International
Bank
Guaranty Trust Bank (UK)
Limited
Gulf International Bank (UK) Ltd
Habib Allied International Bank
Plc
Habibsons Bank Ltd
Hampshire Trust plc
Harrods Bank Limited
Havin Bank Limited
HFC Bank Limited
HSBC Bank plc

RBC Europe Limited
Reliance Bank Limited
Royal Bank of Scotland Plc
(The)
Sainsbury's Bank plc
Santander UK Plc
Schroder & Co Limited
Scotiabank Europe Plc
Scottish Widows Bank plc
Secure Trust Bank Plc
SG Hambros Bank Limited
Shawbrook Bank Limited
Smith & Williamson
Investment Management
Limited
Sonali Bank (UK) Limited
Southsea Mortgage and
Investment Company Ltd (In
Liquidation)
Standard Bank Plc
Standard Chartered Bank
State Street Bank Europe
Limited
Sumitomo Mitsui Banking
Corporation Europe

142
143
144
145
146
147
148

TD Bank Europe Ltd
Tesco Personal Finance Plc
Turkish Bank (UK) Limited
UBS Limited
Ulster Bank Limited
Union Bank UK Plc

149

United National Bank

150

United Trust Bank Limited

151

Unity Trust Bank Plc

152

Vanquis Bank Limited

153
154
155
156
157

V

Talos Securities Limited

VTB Capital Plc
Weatherbys Bank Limited
Wesleyan Bank Ltd
Westpac Europe Ltd
Zenith Bank (UK) Limited

Appendix 4: 36 banks where data are unavailable or including the information for short period
No
1
2

Banks
ADIB (UK) Ltd
Macquarie Bank International Ltd

No
19
20

6

Cambridge and counties bank limited GE Capital Bank Limited

7

HSBC Trust Company (UK) Ltd

25

8

ICICI Bank UK Plc

26

9

Lloyds TSB Private Banking Ltd

27

10

Metro Bank PLC

28

11

Pensions Bank Limited
State Street Bank Europe
Limited

29

Banks
Hampshire Trust plc
Kingdom Bank Limited 0
Methodist Chapel Aid
Limited
Southsea Mortgage and
Investment Company Ltd
Bank of Communications
(UK) Limited
Bank of Ireland (UK) Plc
Bank of the Philippine
Islands (Europe) PLC
Westpac Europe Ltd
Access Bank UK Limited,
The
Punjab National Bank
(International) Limited
QIB (UK) Plc

3

ANZ Bank (Europe) Limited

21

4

BIRA Finance Limited

22

30

Zenith Bank (UK) Limited

13

Talos Securities Limited

31

14

Agricultural Bank of China (UK)
Limited

32

15

Bank of Ceylon (UK) Ltd

33

5

12

16
17
18

23
24

Bank of London and The Middle
East plc
Broadcastle Bank Limited
Charity Bank Limited (The)

Intercontinental Bank (UK)
Plc
Guaranty Trust Bank (UK)
Limited
China Construction Bank
(London) Limited

34

CIT Bank Limited

35
36

Gatehouse Bank plc
OneSavings Bank Plc

Appendix 5: UK bank specialisation (Source: Bankscope)
Bank specialisation
Bank Holding & Holding Companies
Commercial Banks
Finance Companies (Credit Card, Factoring & Leasing)
Investment & Trust Corporations
Investment Banks
Islamic Banks
Private Banking & Asset Mgt Companies
Real Estate & Mortgage Bank
Securities Firm
Specialized Governmental Credit Institution
Total
VI

Number
1
79
4
3
13
2
15
1
2
1
121

Appendix 6: Explanation of variables (According Bankscope)
- Due from banks = loan and advances to banks + reserves Repos and
Cash Collateral
- Due to banks = deposits from banks + repos and cash collateral
- Due means the money a bank owed regardless of the payment time deadline. - Liquid assets = Trading Securities and at FV through Income + Loans and Advance to Banks + Reverse Repos and Cash Collateral + Cash and
Due from Banks – Memo: Mandatory Reserves included above
- Deposits and short-term funding = customer Deposits – current + customer Deposits – Savings + Customer Deposits – Term + Deposits from Banks + Repos and Cash Collateral + Other Deposits and short-term borrowings21. - Total deposits and borrowing = deposits and short term funding + other interest bearing liabilities – (hybrid capital + subordinated Debt)
- Other interest bearing liabilities = total long term funding + Derivatives +
Trading Liabilities + Preference shares and Hybrid Capital accounted for as Debt
- Total Long term funding = Senior Debt Maturing after 1 year +
Subordinated Borrowing + Other Funding
- Hybrid Capital = Preference Shares and Hybrid Capital accounted for as
Debt
- Gross loans = loans + loans Loss reserves = loans + reserves for
Impaired loans/NPLs + credit impairment reserves

21

According to Bankscope’s formulas

VII

- Net interest income = Gross interest and Dividend income – total interest expense - Gross interest and Dividend Income = Interest Income on Loans + Other
Interest Income + Dividend Income
- Total Interest Expense = Interest Expense on Customer Deposits +
Other Interest Expense
- Loan loss reserve = Reserves for Impaired Loans/NPLs + credit
Impairment reserves
- Net Income = Pre-tax Profit – Tax Expense + Profit/Loss from
Discounted Operations
- Pre-tax Profit = Operating Profit + Non-recurring Income – Non-recurring
Expense + Other non-operating Income and Expenses + Equityaccounted Profit/Loss-Non-operating + change in fair value of Own Debt.
- Operating Profit = Pre-Impairment Operating Profit – Loan Impairment charge – Securities and Other Credit Impairment Charges
- Pre-Impairment Operating Profit = Net Interest Income Total NonInterest Operating Income – Total Non-Interest Expenses + Equityaccounted Profit/Loss-Operating
- Total Non-interest Operating Income= net Gains(Losses) on Trading and
Derivatives + Net Gains (Losses) on Other Securities + Net Gains
(Losses) on - Assets at Fv through Income Statement + Net Insurrance
Income + Net fees and Commissions + Other Operating Income
- Total Non-Interest Expenses = Personnel Expense + Other Operating
Expenses.
- Overheads = Total Non-Interest Expenses= Personnel Expenses +
Other Operating Expenses
VIII

Appendix 7: Logit regression (Minitab running)

————— 01/09/2012 15:59:01 ———————————————
Welcome to Minitab, press F1 for help.
Binary Logistic Regression: Y versus L1, L2, ...
Link Function: Logit

Response Information
Variable Value Count
Y
1
57 (Event)
0
64
Total 121

Logistic Regression Table
Odds 95% CI
Predictor
Coef SE Coef
Z
P Ratio Lower Upper
Constant
5.13133 0.900878 5.70 0.000
L1
-0.0033807 0.0008545 -3.96 0.000 1.00 0.99 1.00
L2
-0.0016835 0.0023361 -0.72 0.471 1.00 0.99 1.00
L3
-0.0036444 0.0024815 -1.47 0.142 1.00 0.99 1.00
L4
0.0089999 0.0048092 1.87 0.061 1.01 1.00 1.02
L5
0.0132929 0.0072986 1.82 0.069 1.01 1.00 1.03
L6
0.0074357 0.0048440 1.54 0.125 1.01 1.00 1.02
R1
-0.0037523 0.0064296 -0.58 0.559 1.00 0.98 1.01
R2
-0.0210057 0.0147392 -1.43 0.154 0.98 0.95 1.01
R3
0.0112792 0.0076113 1.48 0.138 1.01 1.00 1.03
R4
-0.0188665 0.0228672 -0.83 0.409 0.98 0.94 1.03
R5
0.164114 0.0906877 1.81 0.070 1.18 0.99 1.41
C1
-0.0015439 0.0023253 -0.66 0.507 1.00 0.99 1.00
C2
0.0015114 0.0012134 1.25 0.213 1.00 1.00 1.00
C3
-0.0112504 0.0117989 -0.95 0.340 0.99 0.97 1.01
C4
-0.0003346 0.0030060 -0.11 0.911 1.00 0.99 1.01
C5
-0.0161476 0.0117710 -1.37 0.170 0.98 0.96 1.01
C6
-0.0695787 0.0191784 -3.63 0.000 0.93 0.90 0.97
C7
-0.134868 0.0242973 -5.55 0.000 0.87 0.83 0.92
ROAA -0.0033365 0.0599596 -0.06 0.956 1.00 0.89 1.12
ROAE -0.0049741 0.0152707 -0.33 0.745 1.00 0.97 1.03
CIR
-0.0076031 0.0055718 -1.36 0.172 0.99 0.98 1.00

IX

Log-Likelihood = -114.184
Test that all slopes are zero: G = 144.571, DF = 21, P-Value = 0.000

Goodness-of-Fit Tests
Method
Chi-Square DF
P
Pearson
278.920 280 0.507
Deviance
228.368 280 0.989
Hosmer-Lemeshow
5.758 8 0.674

Table of Observed and Expected Frequencies:
(See Hosmer-Lemeshow Test for the Pearson Chi-Square Statistic)

Group
Value 1
1
Obs 0
Exp 0.0
0
Obs 12
Exp 12.0
Total 12

2

3

4

5

6

7

8

9

10 Total

1 0 0 4 9 8 11 11 13 57
0.2 0.5 1.6 3.6 7.1 9.2 10.6 11.4 12.9
11 12 12 8 3 4 1 1 0 64
11.8 11.5 10.4 8.4 4.9 2.8 1.4 0.6 0.1
12 12 12 12 12 12 12 12 13 121

Measures of Association:
(Between the Response Variable and Predicted Probabilities)
Pairs
Number Percent Summary Measures
Concordant 3438 94.2 Somers' D
0.89
Discordant 201
5.5 Goodman-Kruskal Gamma 0.89
Ties
9
0.2 Kendall's Tau-a
0.45
Total
3648 100.0
————— 01/09/2012 15:59:01 —————————————————
———

Welcome to Minitab, press F1 for help.
Retrieving project from file: 'C:\USERS\HUYEN\DESKTOP\MINITAB
NEW.MPJ'

X