29th January 2019

Show Time! | Bank Capital Insights

European bank earnings are upon us…

The large US banks reported much better than expected Q4 earnings and revenue growth (other than in FICC) and we saw a significant rally in their respective stock prices.  Now, a number of the large cap European banks are due to report earnings this week including Santander, DB, BBVA Danske Bank and each one of them has distinct issues/topics that investors would be interested in.

What to look out for in the earnings report:

In general, investors would be keen to look out for answers to the following themes:

  • Loan growth and margin pressure;
  • Cost reduction plans to offset revenue slowdown;
  • Credit costs and loan loss reserve build up;
  • Impact of tightening financial conditions on lending;
  • Markets related activity, especially in FICC;
  • TLAC/MREL related issuance plans; and
  • Capital distribution plans.

In addition, there are bank-specific issues that will be of focus:

Santander – It is all about Brazil, Brexit and overall capital build.  And, of course, their AT1 call decision.

BBVA – The bank’s EM business is likely to be under focus given the significant operations in tow key markets Mexico and Turkey.

DB – All about the FICC business prospects and cost base sustainability and potential restructuring of the investment bank and the inevitable questions about merger activity.

Danske – The scale of damage from the money laundering investigation and litigation costs.

Given the different nature of the issues, it is entirely possible that the equity price action in each of them bears no resemblance to broader markets or to the European banking sector.

More than earnings what matters for credit…

The biggest driver for AT1 markets, including the ones issued by the abovementioned four banks, would come from Santander’s decision on their AT1 call.   To me, this is a much bigger event risk than the earnings itself.

From a credit investor perspective, especially in the senior parts of the capital structure, it is additional new supply that should be of concern and at what level (and whether it will re-price existing secondary paper).

I expect significant new issue premium on new non-preferred senior debt from the banks and existing secondary debt holders should brace themselves for a sharp re-pricing.  For those with cash to put to work, happy days if you can get new issues with significant concessions.

GJ Prasad

A senior European bank research specialist with significant breadth/in-depth sector knowledge, GJ has researched bank capital instruments extensively - having covered the asset class for more than 15 years as an analyst and 7 years as a risk taker in buy-side roles. His specialisation includes carrying out detailed financial modelling work on the European banks focusing on asset quality, earnings and capital adequacy metrics. His deep-dive work focuses on single name selection and extensive risk analysis on capital securities, especially on structural features, issuer credit profile and equity/AT1 valuation.