Cheerful bank CEOs have the edge over dark investors
LONDON, July 29 (Reuters Breakingviews) – European bank investors are worried about a wave of defaults. The bosses of European banks are not. Rising interest rates and a cost of living crisis will cause economic hardship, but the pessimism seems overdone.
The region’s five largest lenders, measured by the size of their loan portfolios, have fallen 27% on average since Feb. 18, the week before Russia’s invasion of Ukraine. Santander Bank (SAN.MC)BNP Paribas (BNPP.PA)ING (INGA.AS)Lloyds banking group (LLOY.L) and Societe Generale (SOGN.PA) are trading at 56% of forward tangible book value, down from 75% then, according to Refinitiv data. The current level is roughly in line with valuations from the second wave of Covid-19 in 2020 and the Eurozone crisis of 2012.
The case of the bear is simple. European Central Bank President Christine Lagarde and her Bank of England counterpart are raising rates to stem inflation. Rising prices, exacerbated by a shortage of Russian gas, a slowing economy and higher interest charges will make it harder for households and businesses to service debt. Since lenders operate with low capital buffers relative to assets, even a small increase in defaults can inflict significant losses on shareholders.
Senior bankers are unfazed. Santander, led by Executive President Ana Botín, on Thursday said he expected “no deterioration” in credit quality. Lloyds chief executive Charlie Nunn on Wednesday said impairment charges for bad debts in 2022 would be lower than its previous estimate of 0.2% of total loans. BNP Paribas took a lower credit loss charge for the second quarter on Friday than a year ago.
Bank shareholders do not share their optimism. Think of their decline in market value as a rough approximation of the magnitude of loan losses investors are bracing for, as any credit write-downs will erode equity once they chip away at profits. The fall in valuation since February 18 for the five lenders is equivalent to an average of 1.9% of their outstandings. That’s more than double the amount the same lenders set aside in 2020 to cover foreclosure-induced defaults.
A recession this year or next is unlikely to be twice as painful as the pandemic. For starters, interest rates rise, which increases credit spreads and gives banks additional revenue to absorb writedowns. Second, European unemployment jumped by more than a percentage point in 2020, but economists interrogates by the ECB expect it to continue falling over the next two years. It’s hard to see a big increase in delinquencies as long as borrowers stay in their jobs. Cheerful bank CEOs are probably closer to the truth than their dark shareholders.
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BNP Paribas announced on July 29 that it has set aside 789 million euros to cover future bad debts. The figure, which reflects the bank’s expectations of the number of borrowers likely to default, was 3% lower than the same period a year earlier.
The five largest European banks, measured by the size of their loan portfolios, lost 27% in value between February 18, which was the week before Russia invaded Ukraine, and July 28.
Editing by Neil Unmack and Oliver Taslic
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