Ten Things European Banks are Currently Suffering From

A combination of factors are whipping up a headwind for European banks, ranging from regulatory scrutiny to anemic growth across
Photo: David Gyori

Presently there are myriad of factors that European banks are suffering from. Over the past six months, many of the leading financial institutions and lenders in Europe have incurred notable job-cuts, led by traditional mainstays like Deutsche Bank, Standard Chartered, and Barclays. European banking industry as a whole is facing significant headwinds, highlighted by the following key factors:

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1. Permanent 0-Rate Environment

Low nominal interest-rates put downward pressure on margins banks can charge. Market players price a continuing deflationary environment in for Europe where sub-zero rates are expected to be a long-term phenomenon.

2. Legal Penalties and Sector-Specific Taxes

Since 2008 a wide variety of penalties were levied on banks. The newest scandal that could cost banks big is the Libor rate-rigging story. Litigation costs are skyrocketing, but on top of these a number of countries in Europe have imposed extra taxes on banks on a sectoral basis.

3. 2008 Problems on the Balance-Sheet

European banks still carry painful wounds from the 2008 crisis: NPLs, toxic assets, lack of recapitalization, lack of taking on losses and moving forward.

4. Thousands of Nimble FinTech Companies

Thousands of nimble, creative and dynamic startups are challenging the status-quo of incumbent banks as the FinTech revolution is in full-power mode. Banks are struggling to give adequate answers because they are somewhat paralyzed by their: legacy IT systems, their traditional cost-structure with high salaries, large branch-networks, and huge compliance-costs. Banks also suffer from brand-image problems originating from the 2008 crisis.

They are ambivalent to unbundle themselves and leave the “financial supermarket” model for something less complex. Unlike FinTech companies, banks obviously hold client-assets and liabilities on their own balance-sheet which creates an inherent leverage-risk they continuously have to mitigate. While tech companies are reinventing core banking services for the new generation of digitally native clients – millennials – banks are trying to figure out how to solve the banking innovation paradox: the contradiction between the lessons of the 2008 crisis telling banks to reduce risks and the urgent need to change the DNA of banks and make them more innovative which by definition comes with extra risks.

5. Regulatory Scrutiny and Capital Requirements

Ever more complex and strict regulations and higher capital requirements are torturing banks. More compliance, KYC, AML, more detailed reporting, strict new capital regulations, higher capital-ratios, regulatory scrutiny amount to – some say – over-regulation. There are significant ‘regulatory risks’ induced by the fact that the highly complex regulatory environment is often unpredictable. While banks are subject to exemplary scrutiny, their new competitors – FinTech companies – are often under (or non) regulated. This phenomenon is the “regulatory-arbitrage”.

6. European Political Risks

Brexit, Grexit, an expanding Russia, a refugee crisis, an ever insecure eurozone, and a de-democratizing CEE-region would constitute serious challenges for any political entity. But due to an often paralyzed Brussels these challenges are transforming into concerning risks.

7.  Lack of GDP-Growth in Europe

Most European countries are in a permanent low-growth period due to structural inefficiencies. Europe faces a serious demographic crisis, while lavish social-security regimes and high entitlements are staying in place and serve as untouchable holy-cows. Structural reforms – to reduce fiscal and growth-related concern – are not even on the horizon in most countries in Europe.

8. Exposure to Oil-Related Portfolio Elements

European banks are pretty resistant to a 30 dollar oil-price environment. But lower teens have not been subjects of publicly known stress-tests. Besides the direct portfolio-exposure of European banks to the oil-sector there is an indirect concern: if oil-prices go too far south and the Russian economy – along with its rather weak banking system – tumbles that could easily infect European banks.

9. China-Related Anxiety

There are two major ways the Chinese story is concerning for European banks. (1) China’s economy is slowing. This can hurt European exporters and through them European banks. (2) Chinese banks are most certainly facing a relatively sharp downturn in the credit-cycle with an overleveraged corporate sector on their balance-sheets and an extensive shadow-banking system in the background. This could potentially infect European banks.

10. Others

Weak P&L: Permanent lack of sufficient profitability has made shareholders of European banks impatient. Low or non-existing dividends and occasionally significant losses in the P&L are concerning.

Weak Management: Major European banks often operate with legacy internal processes, legacy corporate cultures, and legacy management practices. Banks are much less attractive to talent than they were a decade ago. Bonus-cuts and the insecurity of workplaces induced by mass layoffs are demoralizing and demotivating employees.

Weak Strategy: European banks lack resources to conduct successful global expansion strategies, while their existing business lines are under permanent pressure: wealth management is challenged by cheap solutions (roboadvisors, social trading, etc.), fixed-income trading is typically incurring losses and there is a general ambivalence surrounding investment-banking arms.

Other Factors: Fear of potential (though unlikely) recession in the United States, global market turmoil, heightened volatility, rising CDS-spreads, banking stocks losing sizeable chunks of value,  and uncertain capital structure (a good example of uncertainty surrounding capital structure is the recent turmoil around Deutsche Bank’s CoCo Bonds – Contingent Convertible Bonds, also known as Enhanced Capital Notes, are debt instruments that are convertible into equity if a pre-specified trigger event occurs).

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