Battered European bank shares face more pain
LONDON, July 24 (Reuters) – European bank stocks have tumbled 40 percent in the past year, roiled by a global credit crisis, and while results from U.S. peers suggest an end to the carnage, an economic slowdown should push shares lower still.
Analysts say the shares may be six months away from hitting a bottom but are unlikely to sink to as big a discount to the broader market as they did in the last financial sector crisis in the 1990s. The DJ Stoxx European banking sector index fell to within 14 percent of its 2003 cycle low earlier this month, and then rallied as some U.S. banks reported better-than-expected results.
On Wednesday the bank index had its best one-day percentage gain in four months, and on Thursday, Credit Suisse easily beat analysts’ forecasts with its quarterly results, sending its shares higher.
JPMorgan, Citigroup and Bank of America reported results that were not as grim as analysts had feared, and although Merrill Lynch was a standout loser, the overall tone from the U.S. earnings season was positive.
But even if the worst of the credit crunch is behind them, bank stocks are likely to suffer further as the effects of the resulting economic slowdown hit earnings and banks struggle to find ways to grow their businesses, analysts said.
“It’s going to be difficult for banks to make any progress in terms of profits at the moment. Consumer confidence is very low, and due to the economic slowdown they’re not going to see the loan growth they have in the past,” said Mark Bon, a fund manager at Canada Life.
“In a normalised banking environment if you have three years as an investment horizon you’d be seriously considering buying stocks for the longer term, but if you’re trying to judge when the bottom of the share prices are, probably some time within the next six months is a better bet than today or last week.”
How far further stocks fall depends on whether an economic slowdown is long and deep, or short and reasonably shallow as analysts currently expect.
“We’re somewhere near the bottom so long as the economy turns out to be broadly as anticipated,” said Roger Noddings, UK chief investment officer at HSBC Investments. “The markets are pricing in all but the most appalling downturn.”
STEEP AND STEEPER
On the face of it, stocks would appear to have fallen to horrific levels.
In terms of price to book value, banks trade at 1.05 times currently compared with 1.4 at the bottom of the last stock market cycle in 2003, while price to earnings at 7 times are at a sharp discount to 11 times in 2003, according to Thomson Reuters data.
Analysts say financials trade at a 22 percent discount to the broader market’s price to earnings ratio, but added that this is small compared to the discount during the fallout in the 1990s of the earlier savings and loan crisis.
“The discount to the market bottomed at 40 percent in the last crisis, and very roughly banks are valued at 20 percent higher than they were at the rock bottom then,” said HSBC’s Noddings.
“Broadly speaking, that was too cheap. I don’t think you are going to get stocks given away to the degree that they were a giveway in the early 1990s, as the tribal memory of investors goes back that far,” he said.
Citigroup said in a note that the three biggest threats to book value this time round were rising bad debts, ongoing sector recapitalisation and the scope for further structured credit writedowns.
It said it would avoid banks with exposure to UK, Spanish or Irish property and those most in need of fresh capital and/or with writedown risks, like Barclays, Deutsche Bank, UBS, Hypo Real Estate, Bank of Ireland, Bankinter and Bradford & Bingley.
Its said its key buys included KBC, DNB Nor and Intesa Sanpaolo.
Morgan Stanley said that most banks were trading near its bear values, and upgraded the sector to “in-line” from “cautious”.
SUCCOUR FROM OIL, M&A?
Bank stocks may be rescued by a fall in crude oil prices. Oil has fallen 15 percent since hitting a peak above $147 a barrel on July 11, in which time banks have risen by nearly 17 percent.
“The consensus position is to long energy and short financials…financials have seen such a massive de-rating. If we start to see the oil price coming off, the temptation to switch those two becomes much greater,” said UBS strategist Gareth Evans.
One other potentially supportive factor is merger and acquisition activity, though there is a risk that companies could wait for valuations to fall further.
Spanish bank Santander announced a deal to buy the U.K.’s Alliance & Leicester on July 14, and sources familiar with the matter have said that Germany’s Allianz is in talks about the sale of its Dresdner bank unit with Commerzbank and Santander.
And Deutsche Post is in talks to sell Postbank, with sources saying potential buyers could include Deutsche Bank, Santander and ING.