Over the last few years, the share price of UK banks has struggled due to concerns over Brexit, however it has been the additional concerns over the coronavirus outbreak, and its long-term impact on UK consumers that has helped drive share prices to new multi-year lows, with the CMC UK Banking share basket down over 45% year to date, with the declines gaining traction sharply in the weeks leading up to the UK lockdown.
Unlike their US peers, the investment banking divisions of the likes of Lloyds and NatWest Group have seen themselves pared back in the past few years, which means they have been much more exposed to the sharp contraction in banking business that came our way in Q2.
While the likes of JPMorgan Chase and Morgan Stanley have thrived due to their investment banking operations, the backlash against so called “casino banking” here in the UK has meant that the less diversified UK banks have struggled in what is an extremely competitive UK market.
The only reassurance would appear to be that the UK government appears willing to backstop any new lending that the banks need to do to keep the UK economy on life support. Unfortunately, that’s unlikely to address the real problem, which is expected to be one of widespread loan loss provisions as consumers default on their existing debt obligations.
For now, the UK government furlough scheme is helping to cushion the falls in disposable income, however the thousands of job losses that have been announced in the last few weeks are likely to create a trickledown effect of loan restructurings, as well as possible loan defaults in the coming months.
This is now being reflected in this week’s earnings updates from the UK banking sector and which looks to be pointing to a bleak economic landscape as we look towards year end, and that’s even before investors start to weigh up any possible economic consequences of the current state of Brexit negotiations.
Spanish bank Santander got the most noteworthy headline this week when they wrote down the value of their UK operation by €6bn and slumped to a €11bn loss.
The declines in Lloyds Bank share price also started to track lower from early February, and has struggled to rebound since. In Q1 Lloyds set the ball rolling of what to expect by setting aside £1.4bn in respect of impairments with total losses expected to hit £4.9bn.
In this week’s Q2 numbers the upper limit of this estimate was pushed up to £5.5bn after the bank set aside another £2.4bn as the company posted a statutory first half loss of £602m, with £676m of that coming in Q2. Net interest margin for the quarter also fell sharply from 2.79% to 2.4% in Q2 as lower interest rates ate into the banks’ ability to generate income.
The fall in NatWest Group share price has been similar to Lloyds.
NatWest Group’s numbers painted a similar picture, having posted impairments of £801m in Q1, and an attributable profit of £288m, the bank this morning posted Q2 impairments of over £2bn, well above expectations of £932m. The bank said it expects full year impairments of between £3.5bn and £4.5bn.
In terms of the overall numbers the bank posted a first half pre-tax loss of £770m, and on most comparatives the numbers don’t look great.
Net interest margin fell to 1.67%, while in Q2 income across retail and the commercial bank fell by £176m reflecting the slide in UK bond yields and the flattening of the yield curve. Furthermore, weaker consumer spending and lower business activity didn’t help, though this isn’t too surprising given the lockdown of the UK economy, during the period.
Barclays share price performance has been slightly better, this year though it is still down year to date.
Barclays kicked us off this week with a Q2 impairment charge of £1.6bn, on top of the £2.1bn it set aside in Q1, making a total of £3.7bn compared to £900m a year ago
While all three of these UK banks are acutely vulnerable to widespread consumer defaults, along with HSBC, who report next Monday, at least HSBC and Barclays have other revenues streams from their investment bank and overseas operations.
This has certainly helped Barclays which has seen its investment division start to perform better than expected in recent quarters, which in turn has helped it in respect of any underperformance in its domestic retail operations.
In its Q1 trading update, profits did fall sharply, to just under £1bn, however the bank did see investment bank revenues rise by 20% to £6.3bn. In its Q2 results earlier this week, investment banking revenue improved again, this time by £6.9bn, up 31% from the previous year, with Fixed Income (FICC) seeing an 83% improvement on the same period last year.
Despite these new provisions Barclays was still able to show a 31% rise in H1 profit of £695m, while down from the same period last year, it was still higher than the second half of last year. Sadly, that hasn’t helped this week’s share price performance, which has seen the shares fall sharply, though not by as much as those of Lloyds and NatWest, with Lloyds Banking Group shares falling to 8-year lows.
NatWest Group shares have also fallen sharply this week, though for now they are above their March lows at 100p, and have opened slightly higher this morning.
With HSBC set to report its latest numbers next week, it seems quite clear from this week’s numbers that the rise in these loan loss provisions, is a worrying sign given how aggressive the banks are being in setting aside contingency.
The rise in infection rates and sheer resilience of the virus appears to be prompting a very much safety first, as well as pessimistic approach, about the outlook. This raises the very real prospect, given the current economic uncertainty in play around the world, that these numbers could well get a lot worse, if there isn’t a significant improvement in the global outlook.
That appears to be the real message behind this increase in loan loss provisions, with a lot of people hoping that the rather downbeat outlook on the UK economy from Barclays CEO Jes Staley proves to be wide of the mark.
Next week's numbers for HSBC are likely to paint a similar picture, with the added complication of HSBC’s Asia business, and particularly Hong Kong and China. The bank is already caught in the middle of the US, China spat over the Hong Kong security law, which could affect how it does business in both regions.
The bank is also in the middle of a big cost cutting cycle, which was announced at the end of last fiscal year, and at the end of Q1 set aside £2.4bn in respect of non-performing loans, and said this could rise by another £7bn over the rest of the year.
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