The banking sector may prove to be one of the safer havens as the COVID-19 outbreak worsens.
“Pretty much all of the banking system across the world are actually well capitalised. I don’t expect anything as severe as in 2008”, says Jan Bellens, global banking and capital markets sector leader at Ernst and Young, who spoke with Financial Director on March 6.
According to EY’s 2020 global banking outlook, 84 percent of banks have a fairly strong or strong ability to recalibrate tolerances or limits and 90 percent indicated they have at least an adequate quality of playbooks if a severe downturn would occur.
“Most of the large bank balance sheet is highly diversified. Unless they are heavily exposed to one particular sector, most large banks globally have very diversified exposure to various sectors,” says Bellens. “Unless this becomes an overall deep recession. Of course, the results will suffer but I expect them to be reasonably protected.”
While banks are in a much stronger position compared to 2008, Bellens says that doesn’t mean they are siloed from the rest of the economy. “Banks are a reflection of the real world. If you look at the sectors that will get impacted heavily if you look at travel, hospitality and luxury goods, it will really depend on what percentage of your books are exposed to those sectors. That’s the key, the key dimension to the track. Banks will go with the with the broader with the broader economy.”
The banking sector overall is in good health, but the report also indicated that some regions are in better shape than others. Asia-Pacific has the highest average efficiency ratio as weighted by cost to income at 38.7 percent in 2018. North America stands at 59.6 percent and Europe at 61.2 percent. Bellens says Asia’s low ratio is primarily due to the Asian market being in a ‘growth phase’.
Europe may struggle
In terms of North America and Europe, Bellens says North American banks are in a good position.“US banks, in terms of return on equity are strong performers. They’re mostly driven by a strong economy, in particular a strong consumer economy, consumer spending and wealth and deposit gathering. This has created quite a stark contrast to Europe.
“An additional component to that is after the coming out of the financial crisis is that US banks have cleaned house, restructured quite a bit and built real scale. While in Europe, the restructuring and some of the of the cost transformations have taken longer or has not taken hold at all.”
For Dr Edmund Barter, lead data scientist at CheckRisk, European banks are currently not well positioned for a period of contraction. “The European banking sector has never really recovered from the last financial crisis. And even prior to [COVID-19], banks were struggling to find sources of profit. As the long term negative rates have kicked in, they have really affected the profit margin. And as a result, the European banking sector is not prepared at all for what is definitely a recessionary shock and potentially a full blown recession over the next couple of quarters.”
Like Bellens, Barter is also slightly more optimistic for the North American banks sector saying.
“North American banks are better prepared, they’re in a healthier place,” he says. “But as, we’ve seen over just this weekend, the effects of the Fed cutting rates have not been as positive for the markets as people might expect or expected them to be. I think it’s fair to say that well, America is in better place but definitely not a safe haven that you can just run to.”