Will Interest Rates Force Big Bank Breakups?

Interest rates might have a tough impact on big banks this year, especially given the burden of meeting and exceeding the cost of capital.

Just a few years after the days of “too big to fail,” could it be the case that interest rates will prove to be the undoing of the big banks?

In a research note that debuted earlier this week from RBC and specifically from analyst Gerard Cassidy, the argument put forth is that at least two banking juggernauts, Bank of America and Citigroup, may find themselves on the cusp of breakup if there are several devils still in the details, among them low interest rates and a suppressed level of profits at those entities.

The key is that the attention has turned away from credit concerns that lingered in the wake of the financial crisis and that means that the focus is on fundamentals. The fundamentals range from examination of the typical metrics encompassing growth and returns on capital and equity.

RBC, according to Barron’s, noted that troubles loom when the banks cannot recoup and surpass the cost of capital, which is estimated to be between 9 and 10 percent. Should interest rates continue to be at relatively depressed levels, then such drastic measures may have to be considered.

The benefits of a breakup? RBC noted that it could be a gateway to unlocking shareholder value. For the banks themselves, there is the ability to skirt onerous capital mandates, chiefly by splintering into smaller companies. A way that breakups may find their way into serious consideration is through the impetus of investor prodding. But there’s a catch-22 in the prodding that may come from investors, and it may short-circuit the whole process, as banks may seek to undertake such initiatives and yet find them too costly to take on in earnest, the note from RBC stated.