All the ways banks can get hit by Putin’s war

Bank stocks have tumbled more than most since Russia's unprovoked invasion of Ukraine — and not just in Europe. Shares in big U.S. banks have also fallen about twice as much as the S&P 500 in percentage terms in the past month. 

Investors aren't just worried about loans into Russia and Ukraine: Direct exposures look manageable for even the handful of European lenders that have the biggest businesses inside President Vladimir Putin's increasingly isolated country. The bigger concern is the global economic disruption caused by Putin's aggression and the Western allies' response.

There is a growing realization that interest rates in Europe and the U.S. aren't likely to rise as far or as fast as most thought just a couple of weeks ago. Also, a collapse in investment-banking revenue in highly volatile markets could cause an even bigger hit to revenue.

To look at the potential for direct losses first, they appear bad but not disastrous. Among U.S. lenders, Citigroup Inc. looks to be one of the most exposed, with $9.8 billion in total loans. If all that was worthless, the loss would eat about 6.5% of Citi's equity capital, painful but nowhere near existential.

In Europe, the bank with the most at risk relative to its size is Austria's Raiffeissen Bank International. Its total 22.85 billion euros ($25 billion) in Russian assets and other exposures is double its equity base. But's that's a misleading number.

The vast majority of RBI's risks are in a Russian subsidiary from which it could walk away if the worst came to the worst. Quitting Russia would cost RBI the equity in its Russian bank, worth just 2.4 billion euros. That's 20% of RBI's total equity and would be painful. But RBI would still have a sturdy enough balance sheet without having to raise fresh equity: Amputating the Russian bank would leave it with a much smaller balance sheet and so it would require less capital.

It's a similar story for UniCredit SpA and Societe Generale SA, the other Europeans with large direct exposures — in the mid-teen-billions of euros. Losing the equity in their Russian arms would hurt profits but barely trouble their balance sheets.

Deutsche Bank AG, meanwhile, has only 600 million euros of net loans into Russia, rising to 1.4 billion euros excluding guarantees and collateral. And yet Deutsche Bank stock is down a third over the past month, not far behind UniCredit and SocGen, which are both down about 40%.

It's the indirect hit that investors are most worried about. Banks in the U.S. and Europe had rallied in recent months on expectations that interest rates would rise in both markets, boosting income. That is now much less certain. Loans to European companies that do business linked to Russia might also go bad and lead to losses.

At the same time, fees from helping companies raise money in capital markets are likely to tumble. New stock listings in the U.S. hit a sand trap this month and are heading for their longest barren period since 2009. Credit Suisse Group SA said Thursday that it was seeing a slowdown across capital markets issuance due to the rise in volatility. Deutsche Bank said the same day investment banking fees were 30% lower so far this year compared with 2021.

Trading will also likely suffer. Investors might do more in the short term to get out of riskier bets or buy insurance against market declines. For example, hedge funds are rapidly selling stocks they own with borrowed money and covering their short bets at the same time, according to Goldman Sachs Group Inc. JPMorgan Chase & Co. said this week that clients in its trading businesses were under extreme stress.

All this adds up to a much bigger potential drop in trading revenue than was already expected this year. After investors finish their repositioning, they may sit tight until the Ukraine crisis eases or ends.

Despite such risks, Deutsche Bank was still confident enough to set ambitious financial targets for 2025 on Thursday, including growth in its annual revenue of 4.5 billion euros by then, or more than 3.5% per year. If Russia's brutal assault ends quickly and some kind of peace is restored, the knock-on effects for economies and financial markets might not be that deep or long lasting – but that looks like a big "if" right now.

Then there are the true unknowns, the surprises that could lurk beneath the surface. Traders have already watched nickel prices go wild. Ripple effects from high volatility through over-extended markets might provoke some major fund collapse and cause a daisy-chain of losses. What looks like good collateral for trades or loans could disappear or become inaccessible. Some odd thing in a supply chain might go missing and shut down a carmaker or industrial process.

As sanctions against Russia spread through its economy and rebound across the world, wider financial trouble is a likely outcome everywhere.

Paul J Davies is a Bloomberg Opinion columnist covering banking and finance. He previously worked for the Wall Street Journal and the Financial Times.

Disclaimer: This article first appeared on Bloomberg, and is published by special syndication arrangement.