Uncertain times ahead for RBS

The eurozone could prove especially troublesome. That's because the lender has a hefty £69bn exposure to the zone's weakest economies, with £14.3bn at risk in Spain and another £7.7bn at risk in Italy. Of the UK's lenders, only Barclays is more exposed to these two struggling economies (see table). RBS also has a £44.7bn exposure to Ireland. So any further slide in sentiment towards the eurozone's weaklings could prove painful for RBS's shares.

UK banks' eurozone exposure

In fact, Ireland is a particular worry for RBS. Its Ulster Bank operation has been hit hard by economic distress and, at the half-year stage, the unit reported an operating loss of £555m, following an impairment charge of £717m. That represents 27 per cent of the group's total half-year charge for bad debts, yet the Irish loan book comprises just £33bn of the group's entire loan book of £495bn.

RBS's other businesses are hardly booming, either. The UK retail side, for example, saw half-year operating profit fall 13 per cent year on year to £914m after tough economic conditions hit demand for unsecured credit. Meanwhile, the markets operation - investment banking - saw half-year operating profit drop 21 per cent to £1.08bn, as trading was hit by fears over the eurozone and worries over slowing Chinese growth. The only business to demonstrate any notable resilience was the US operation, where impairment charges dropped 73 per cent and operating profit rose 40 per cent to £331m.

Nationalisation threat

As the UK economy slides further into recession, the government is worried that banks aren't lending enough to businesses. That has reportedly left some ministers keen to use RBS as a vehicle to bolster lending and to avoid challenges from minority shareholders (the state already owns 84 per cent of RBS) - £5bn could be spent buying them out. Sure, nationalisation is unlikely - the Treasury is thought to oppose it - but the threat could be enough to hit the shares.

On the brighter side, the group's total half-year impairment charge fell 48 per cent year on year to £2.65bn, although the bulk of that decline was driven by a sharp fall in charges relating to RBS's peripheral activities, which management is working to run-down anyway. The drop in bad debt charges in core operations was a more sedate 10 per cent. RBS also boasts a plump cushion of capital - at the end of June, its core tier-one capital ratio (basically equity) equalled 11.1 per cent of assets, weighted for risk. That's acceptable compared with other UK banks, but a serious slide in credit quality - far from impossible after the UK economy shrank 0.7 per cent in the second quarter - could wreck that ratio.

Libor woes

With a plethora of regulators peering into the Libor interest rate scandal, it's a fair bet that the fallout will spread beyond Barclays. And, after RBS revealed that it had dismissed four unnamed employees for Libor-rigging activities, it could be the next UK lender to be dragged in. Quite apart from the reputational damage, the cost could be significant - last month, analysts at investment bank Morgan Stanley estimated that RBS could face £420m of regulatory fines and a further £680m to settle civil lawsuits.