UK banks could face losses of up to £80bn if the euro collapses, a leading banking analyst said today.

But Arturo de Frias, head of banks research at Evolution Securities, argued that the costs and consquences of the single European currency falling apart were too high for it to be allowed to happen. He wrote:

If the euro goes, the whole European banking system – including the banking systems of the core nations - would be nearly bust.

If the euro is abandoned, and we go back to the peseta, lira, escudo, dracma, etc, devaluations would follow immediately. And devaluations mean write-offs of loans and investments - of a size that would render the whole European banking system completely insolvent. According to Basel, last June, German banks had €250bn claims vis a vis Spain and Italy. If Spain and Italy devalue by 30% on their way back to the peseta/lira, the German banks lose €74bn. If you add Greece, Portugal, and Ireland, total losses would be €120bn. That is almost half of the total equity capital of German lenders. The French banks have €430bn claims vis a vis Spain and Italy. A 30% devaluation would imply €129bn losses. Add Greece, Ireland and Portugal and the total losses would be €160bn. This is more than the capital of BNP, SocGen and CASA combined. The UK banks have €132bn exposure vs Spain and Italy. That means €40bn losses. Add the smaller countries and we get to €80bn losses. That is nearly half of the equity of Barclays, Royal Bank of Scotland and Lloyds Banking Group.

Combined, the French, German and UK banks could lose €360bn if the euro goes. The only way forward is fiscal union. It has become now 100% evident that monetary union without fiscal union does not make any sense. My gut feeling is, the decision has been taken already.

And his conclusion from all this is that the current downturn in banking shares offers a good buying opportunity:

I am not saying that this is the bottom: acute sovereign fears can become extreme sovereign fears before we reach the bottom. And the implementation of fiscal union will be a very bumpy road, with plenty of demonstrations and general strikes on the way.

But eventually is will become clear that the euro stays. And then it will become clear that some of our banks are 50%, 70% or 80% cheap.

But after an early rise, it seems investors are still concerned about Europe's sovereign debt problems, with yields on Irish, Spanish and Portuguese bonds continuing to rise. So Barclays is down 2.3p at 264.7p, Royal Bank of Scotland is 0.3p lower at 40.26p and Lloyds has lost 0.14p to 64.24p. Meanwhile analyst Ian Gordon at Exane BNP Paribas has dismissed talk that Lloyds and HBOS could be demerged:

Until the Independent Banking Commission reports in September 2011, the fatuous debate over whether "Lloyds-HBOS" should be "de-merged" will run and run. Despite the reams of column inches in today's press, there is no new news.

Even if the Independent Banking Commission and/or the UK's coalition government choose to make a "grand statement" it will not lead to a de-merger in any traditional sense. It will simply be an expanded "carve-out" (over and above) the existing 600 (out of 2900) branch carve-out currently mandated by Brussels' "state aid sanctions". If Lloyds was currently valued by the market using any proper or traditional, earnings-based valuation methodology, we might have material concerns about the potential impact of an increased carve-out. But it is not, nor is it going to be any time soon. Lloyds trades below 1.1 times 30 June 2010 tangible net asset value. Upside will remain constrained by political/regulatory noise, which is why we regard the consensus 12-month target price of over 90p as unrealistic. But for an investment proposition underpinned by absolute cost reduction and structurally falling impairments rather than uncertain aspirations for revenue progression, the stock is cheap enough to remain relatively attractive, and (within reason) attractive on an absolute basis too.