Analysis Ukraine crisis leaves European banking renaissance in tatters

FILE PHOTO: The skyline with the financial district is photographed in Frankfurt
FILE PHOTO: The skyline with the financial district is photographed in Frankfurt am Main on September 22, 2021. REUTERS/Kai Pfaffenbach

March 9, 2022

By Lawrence White and Iain Withers

LONDON (Reuters) – Europe’s troubled banks have entered 2022 on a wave of optimism unseen in more than a decade, with interest rates finally set to rise, the COVID-19 pandemic receding and profits rising. The Ukraine crisis quickly wiped that out.

Russia’s invasion has sparked an exodus of Western companies from the country, ratcheted up commodity prices, battered the euro and even threatened a global recession, just as Europe’s lenders seemed poised to return to growth.

Investors had returned cautiously to the sector, lured by cheap valuations and the prospect of excess capital set aside during the pandemic being repaid as dividends and buybacks.

But Italy’s UniCredit capital allocation plans appeared to be hanging by a thread this week after it said a write-down of its Russian business would cost around 7.4 billion euros ($8.1 billion), the clearest indication yet of how the crisis tarnishes the sector main appeal.

The STOXX index of European banks is down 15% since the February 24 invasion, while the benchmark STOXX index is down just 5%, making banking one of the worst-performing sectors in the region.

European bank shares are trading at a discount of more than a third to their US peers, RBC Europe calculations show, and could fall further as valuations remain above the lows seen in previous crises.

This reflects a major change in sentiment in just the last few weeks. Banks’ annual reports in February reflected an upbeat tone, with lenders including HSBC, Barclays and UBS posting record profits, promising more payouts to shareholders and citing a significantly improved outlook.

Assessing the potential damage to individual banks is complicated, said Eric Theoret, global macro strategist at Manulife Investment Management, because of the different ways they are exposed.

Some have holdings in Russian bonds and equities, others have holdings in Russian banks, and still others are still sensitive to the secondary impact on the European economy.

“European growth will take a hit, as will European banks’ exposure to Russia — that’s one of my biggest concerns,” Theoret said.

Graphic: Russia’s attack on Ukraine creates headwinds for Europe:

According to an analysis by Citi, French, Italian and Austrian banks have the most direct exposure to Russia.

Those with the most to lose from their holdings in local lenders, including UniCredit and France’s Societe Generale, could still deal with a full write-off of those holdings, analysts said.

Societe Generale said on March 3 it could deal with having its €15 billion stake in local lender Rosbank divested.

Austrian lender Raiffeisen is considering exiting Russia, where it is the country’s 10th largest bank by assets, Reuters reported earlier this month.

Potentially more damaging to European banks over the longer term are the risks of delayed central bank rate hikes, dwindling prospects of returning excess capital to shareholders and the risk of stagflation, with prices rising as growth falters.

Before the conflict, markets had priced in the European Central Bank’s deposit rate increase from -50 basis points (bps) to zero by the end of the year. They now only expect a 20 basis point increase, said Berenberg analyst Michael Christodoulou.

This hurts banks because higher benchmark interest rates help them make larger profits from the spread between the interest charged to lend and the interest paid to depositors.

A likely freeze on corporate funding could also hit banks like Barclays and Deutsche Bank, which have significant capital markets operations.

“Customer issuance of debt and equity is being put on hold until more certainty is available and this could negatively impact overall underwriting revenues,” said Maria Rivas, senior vice president of global financial institutions at DBRS Morningstar.

(Reporting by Lawrence White and Iain Withers; Additional reporting by Dhara Ranasinghe and Sinead Cruise; Editing by Jan Harvey) Analysis Ukraine crisis leaves European banking renaissance in tatters


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