Allied Irish Bank's surprise announcement last week that a rogue foreign exchange trader had racked up $750 million in losses, has European bank analysts worried that spreads will widen dramatically throughout the sector. Just after the losses were announced, AIB's tier-one bonds widened by roughly 45 basis points to 200 basis points over German bunds. "There is a risk of contagion to firms closely associated with investment banking and with derivatives trading exposure," says Olivier Szwarcberg, a banking analyst at Bear Stearns in London. As of last Thursday however, only a few banks had been affected. Bonds of Standard Chartered widened out by 10 basis points, while Fortis Bank and Bank Of Ireland were trading up to 12 basis points wider at LIBOR plus 166 and 156 basis points, respectively.
"This came out of the blue. It highlights how operational risk is much greater than you think," says Rafael Villarreal, bank analyst at BNP Paribas in London. "Spreads will widen, because the fear of investors with this kind of event is that management isn't in control. An overreaction is likely and the financial institutions sector has already been jittery since September," he adds. Other banks could be affected by spread widening as investors make a flight to safety. "It's possible, but not necessarily rational," he says.