IMG
Asset-quality Quarterly: brighter prospects for European banks

Credit conditions for European banks are normalising and prospects for the second half of the year look bright. A return to pre-crisis operating income with higher loss absorption buffers accumulated during the crisis will facilitate management of NPLs.

Credit risk has been frozen in time due to the extraordinary support measures available to borrowers and lenders during the pandemic crisis. “We expect a moderate net increase in NPLs this year,” said Dierk Brandenburg, head of Scope’s financial institutions team. “The large EU banks reported a stable 2.5% NPL ratio at the end of the first quarter, helped by active NPL workouts and well controlled NPL formation from a low base.”

There are a number of caveats, however. Scope’s base case largely hinges on an orderly withdrawal of support measures. Abrupt cuts would be counter-productive and ruin lengthy efforts to keep economies afloat. Preserving credit supply remains a public policy priority. General elections are approaching in certain countries.

Countries like Italy or Spain have prolonged support measures; the payment behaviour of people coming out of moratoriums has yet to fully emerge but the data so far are reassuring. Also, the sectors most vulnerable to the adverse consequences of prolonged public health measures have yet to recover, from transportation, restaurants and accommodation to the leisure industry, but exposures are relatively small.

Meanwhile, long-term shifts in customer behaviour will continue, for instance in the retail sector due to e-commerce or in commercial real estate due to working from home. Lastly, banks in Italy and Greece have been relying on selling legacy loans to reduce their net NPL formation during the crisis. Keeping the momentum in the NPL management sector is critical.

“In 2021, cost of risk will likely return to close to the through-the-cycle average,” said Nicolas Hardy, executive director in Scope’s financial institutions team. “Assuming the fight against the pandemic is successful, banks will first release accumulated earnings earmarked for dividend distribution and reverse precautionary provisions taken in 2020. As the outlook brightens, we expect some release of provisions on performing loans thanks to better assumptions leading to lower expected credit losses and possibly a release of precautionary management overlays.”

Scope does expect loan non-performance to trend up, though, especially in countries where a large proportion of moratoriums has yet to expire, but there are several positive signs suggesting that the increase will be gradual and moderate.

Pressure on net interest income, banks’ first line of defence, should persist in 2021, however. “There is no general upward revision of commercial lending rates due to tightening underwriting criteria. Liquidity is abundant, banks are competing for clients and the economic outlook is improving. The end of moratoriums and lighter public health measures allowing for more commercial activities will provide some relief on NII pressure later in 2021 but it will be limited,” said Hardy.

Tags


Share


Comment

In the same section