Barclays Capital seeks to calm investors' nerves

Barclays' Bob Diamond tried to reassure investors about his investment banking business and the long-term prospects for credit markets yesterday.

Mr Diamond said Barclays Capital was profitable in August and that the business was positioned for further growth despite market turbulence.

"Barclays Capital traded profitably in August 2007, after full allocation of costs and the mark to market of all positions," Mr Diamond told a banking conference. "We have suffered pain in July and August... You will see we have managed our risk and our clients' risk effectively and we are well positioned."

After bingeing on a credit boom for years, investors have pulled back from buying debt after mortgages lent to risky borrowers showed rocketing defaults. Institutions are keeping their money in cash and government bonds, leaving banks with hundreds of billions of dollars of debt on their books that they would previously have parcelled up and sold on.

The credit crisis has focused attention on Barclays Capital because it is active in the debt and credit derivatives markets and has been a leader in structuring debt-related products that package up or invest in assets linked to US sub-prime mortgages. The business is the main driver of Barclays' profit, and concerns about its exposures have hit Barclays' share price at a time when it is trying to use its shares to pay for ABN Amro of the Netherlands.

Mr Diamond said Barclays had not bailed out any SIV-lites, the investment vehicles it had helped structure for clients. "These are not bail-outs – we're being paid market prices for providing liquidity," he said.

The freezing up of the money markets is about liquidity rather than credit quality and that requires confidence to return, Mr Diamond said. Credit as an asset class still has good prospects because company balance sheets are strong and default rates are low, and the problems in US sub-prime loans should not overshadow the overall picture, he added.

The credit rating agency Moody's yesterday warned that defaults on corporate debt were likely to rise substantially over the next year, but said that it was likely to remain below its historic global average of about 5 per cent as long as the US avoided a recession.

Barclays is competing with Royal Bank of Scotland and its consortium partners to buy ABN, and Barclays' bid has dropped in value with its share price, whereas the RBS cash-based offer has been less affected by the drop in banking shares.

Mr Diamond said that if market conditions stayed as they were, then Barclays' bid would be less than the RBS group's. Until now, Barclays has argued that when investors see the sense of the deal its share price would rebound, but the bank is running out of time and market jitters continue to drag down banking stocks.

Mr Diamond said that he expected to see the market for leveraged finance for private equity deals recover next year and that deals were being better priced with stronger covenants, which was welcome.

Negotiations between Kohlberg Kravis Roberts, the US private equity firm, and its bankers over the $24bn (£11.8bn) of debt needed to buy First Data, a US credit card processor, are being keenly watched as a barometer of debt market sentiment.

Having said it would not negotiate, KKR is now said to be willing to accept a covenant to maintain a certain level of earnings to make it easier for the banks to sell the debt to investors.

Central bankers met at the Bank for International Settlements, and Jean-Claude Trichet, the president of the European Central Bank, said the world economy was on a strong enough footing to cope with the crisis, although the US economy would determine the size of the effect.

He said that though the central banks had taken action to stabilise money markets, they were not prepared to rescue institutions that had made bad investments.

"It's certainly the sentiment of central bankers who are around the table that bailing out bad investors would be the worst thing to do," Mr Trichet said.

Moody's predicts levels of companies defaulting on speculative-grade debt will rise from current levels of about 1.4 per cent to 4.1 per cent in 12 months' time,