Italian and French banks are the potential ’phoenixes’ in the European
banking arena. The characteristics of a bounce back could really hide a
great investment trap as three decades of credit expansion has come to
an end.
Some of the recent falls in banking shares have been based on ‘reality’ whilst others were considered to be simply ‘innocent’ bystanders. Does this present bargains when the market stabilizes and recovers? Not in France and Italy, in our view, especially as the European interbank market remains under great stress with rates at late 2007 pre-crises levels (see chart 1).
Some of the recent falls in banking shares have been based on ‘reality’ whilst others were considered to be simply ‘innocent’ bystanders. Does this present bargains when the market stabilizes and recovers? Not in France and Italy, in our view, especially as the European interbank market remains under great stress with rates at late 2007 pre-crises levels (see chart 1).
Multiple risks ahead
Given the complex nature of the banking system we highlight a number of characteristics that investors should place on the “watch-out’ profile. These are:
Given the complex nature of the banking system we highlight a number of characteristics that investors should place on the “watch-out’ profile. These are:
- a level downshift in ROE (chart 2),
- sluggish interest margins (less provision costs) coming out of the 08-09 crises (chart 3), and
- unchanged Balance Sheet leverage (chart 4).
Italy and France’s larger banks all have significant non-domestic credit exposure, and in some cases, to rather exotic markets. Furthermore, both countries face heavy sovereign debt pressure, and as government funding costs go up so does the domestic banks', with this being very much the focus of the present market. Rating agencies focus on the quality of the “lender of last resort” and their ability to bail out with lower national ratings spilling over to the ratings of the banks, straining earnings.
High volatility expected
Since the financial turmoil started in early August we have seen large trading ranges in the European banking sector. There was the initial free fall of the market resulting in a high correlation between so called solid banks and those previously pointed out as containing toxic assets. Lately, we have experienced an “attack on the French banks”, particularly Société Generale on the back of rumors regarding urgent funding issues and possible insolvency. Regulators responded with a temporary short-selling ban on all financial stocks.
Thus we think investors will be reluctant to rethink their bearish attitude versus the French and Italian banks.
Since the financial turmoil started in early August we have seen large trading ranges in the European banking sector. There was the initial free fall of the market resulting in a high correlation between so called solid banks and those previously pointed out as containing toxic assets. Lately, we have experienced an “attack on the French banks”, particularly Société Generale on the back of rumors regarding urgent funding issues and possible insolvency. Regulators responded with a temporary short-selling ban on all financial stocks.
Thus we think investors will be reluctant to rethink their bearish attitude versus the French and Italian banks.
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