End of Goldilocks period for US banks?

Europe's Goldilocks period

The end to the ECB’s quantitative easing could prove to be the catalyst for some of the quality bank stocks Europe has to offer coming to the fore.

One door closes…

The US banks have been an excellent place for income investors to be over the last three years. We have seen strong net interest margin (NIM) expansion, solid volume growth and provisioning (what banks set aside to allow for impaired loans) at very low levels.

But what has become clear in recent months is that this is probably as good as it gets for the sector and the much-vaunted ‘Goldilocks’ period has well and truly passed. Net interest margin increases appear to be decelerating, volume growth has been underwhelming in recent quarters and we are probably at the trough of the provisioning cycle.

…Another one opens

However, casting an eye to Europe, and in particular, some of the interest rate-sensitive areas of Europe, there are reasons for investors to be more optimistic.

Looking at the valuation premium between US and European banks, the discount is probably as large as it has been since the end of the GFC. However, 2019 could be where the balance starts to shift.

European banks have yet to experience their Goldilocks scenario (high volumes, expanding margins, and very low provisioning), but there are strong reasons to suggest it could be on its way. Not least because of the end of the European Central Bank’s asset-purchase programme last December, and the suggestions that ECB president Mario Draghi will finally raise interest rates at the end of 2019.

Waiting for a sign

Of course, Europe is not without its challenges – specifically, the uncertainty surrounding Brexit and political ructions in Italy and their wider impact on the region.

But the end to the ECB’s quantitative easing could prove to be the catalyst for some of the quality bank stocks Europe has to offer coming to the fore, and with Draghi’s rate rise in mind, banks within rate-sensitive countries should be able to offer more for investors. For example, in Spain, new loan ‘originations’ are growing, suggesting loan growth could soon go into positive territory. Meanwhile, provisions continue to ratchet down, underlining the improving quality of loan books. This could help companies such as CaixaBank, Spain’s largest retail bank, which is aiming to outgrow the domestic credit system as Spain’s economy improves.

Within Europe, there are banks with strong balance sheets and low asset-quality risk which can continue to grow their top-line. The rate-sensitive ones will be very well positioned should rates increase as forecast and they are most able reprice their loan books quickly (as opposed to some peers where this could take as long as 10 years).

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This information is issued and approved by Martin Currie Investment Management Limited (‘MCIM’). It does not constitute investment advice.

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