Posted on Jul 26, 2021 at 7:03 am
“Well dance now! “. After eighteen months of famine, the ECB authorized the banks of the euro zone, Friday evening, to resume without restriction their payments of dividends as of the fourth quarter. The results of European banks, published this week, will give a clue to the markets of their ability to do so. Deutsche Bank opens the ball on Wednesday, followed on Friday by BNP Paribas and UniCredit.
Has activity really picked up?
In investment banking, almost all the signals are green. It is clear that market and investment banking activities will drive a large part of the results of European banks this quarter, according to Fitch. BNP Paribas, Deutsche Bank and Barclays benefit from the fever of mergers and acquisitions, issues and equity markets. After a record in the first quarter, interest rate and foreign exchange trades (FICC), especially among French banks, should normalize, according to Jefferies, due to lower volatility.
The recovery in retail banking is also there. But the ECB’s low interest rate policy is keeping interest margins under pressure. European banks report a sharp increase in demand for mortgage loans in the second quarter. Growth is more moderate on the corporate side, according to the latest ECB study. Now “credit volumes are only 3% below the pre-covid outlook but the outlook for interest income is still below 10% of those before the crisis”, point out Barclays analysts. For French banks, loan growth should slow down somewhat. With the sharp recovery in consumption compared to 2020, commission income, on the other hand, should grow, especially in payments.
Are the risks under control?
In the eyes of the authorities, banks are sometimes too optimistic in their assessment of credit risk. A recent note from the ECB worries about an optical effect: the bad debt rate (or “NPL”) has fallen in the euro zone, from 3.1% of total loans in March 2020 to 2, 5% a year later. But in absolute terms, the amounts of NPL increased from 444 billion euros in December 2020 to 455 billion three months later.
The ECB sees this as an “initial sign” of a stronger deterioration in risk to come. It will be too early to see a worsening risk in bank balance sheets this week, as significant provisions have already been made in recent quarters. Above all, analysts at UBS believe, the Delta variant is not causing a massive increase in hospitalizations at this stage, and therefore does not hamper the economic recovery.
Conversely, can we expect reversals of provisions that would stimulate results? Probably not. “European banks recognize their losses more gradually than the United States”, remind S & P analysts, which suggests at least a comet tail effect, even if the improvement in the economy was confirmed.
Will profitability improve?
A rebounding activity, risks that do not deteriorate. On paper, the conditions are favorable for the banks to see their level of profitability increase. It must be said that the sector is not at its best. If the banks were able to avoid an explosion of unpaid loans, “the repercussions of the crisis were more marked on the profitability of the sector”, underlined last month in a speech Denis Beau, first deputy governor at the Bank of France.
The returns on equity (or “return on equity”, RoE) fell to 4.2% in 2020, compared to 6.1% in 2019, noted Denis Beau for whom “a rebound is emerging in the first quarter of 2021”. It is usually considered that a RoE of less than 8% amounts to destroying value.