Five things we have learned from global banks' first half year results
It goes without saying that 2020 is a tough year for banks. Based on financial metrics* that EY tracks for the consumer, corporate & commercial and investment banking divisions of the world’s largest banks, here are five learnings from the results of the first half of 2020:
1. Provisions hit profitability for lending businesses
The size of provisions in Q2 of 2020 grabbed the headlines. The largest 20 European banks set aside $28b for bad debts, while the largest eight US banks set aside more than $40b.
On a bank by bank basis, provisions varied widely, according to the sectoral and geographic composition of loan books, as well as their economic forecasts, but across the board, they had a significant impact on what were formerly the engines of profitability for large banks.
Median return on equity (ROE) for the largest consumer banking businesses was down more than seven percentage points from the first half of 2019, at 7.8% - a big hit for a segment that has consistently delivered double digit returns in recent years. Overall, consumer loan growth was flat across the first half, while credit card spending has declined markedly. For corporate, commercial and SME divisions, which delivered solid returns over 10% in recent times, median ROE for the first half of 2020 was dragged into negative territory (-1.4%).
The largest banks remain well-positioned to absorb asset quality challenges. Nevertheless, the extent of eventual losses remains unclear, especially where governments have (partially) underwritten emergency lending. All eyes will be on the second half 2020 results to see how things evolve.
2. Universal banks benefited from an investment banking bounce
Investment banking results benefited from a spike in trading revenues. European investment banking divisions were even able to break the double-digit ROE barrier for the first time since 2010, with median ROE hitting 10% - though they still lag their US counterparts.
Sales and trading revenues at the largest investment banks grew by more than a third due to higher volatility and increased client activity. Fixed Income, Currencies and Commodities (FICC) was the star, posting the highest first half revenues since 2011. There were also strong increases in underwriting fees as cash-poor firms sought additional financing – although market uncertainty drove a decline in advisory revenues.
Despite the positive first half, management at many investment banks acknowledged it is unlikely to be sustainable and client activity may dissipate.
3. Being a challenger can be challenging
The Ant Financial IPO shows how successful some new financial players can be, but the wider challenger sector globally has had mixed fortunes. In Europe particularly, some challengers have been hit by a combination of a ‘flight to safety’, a decline in funding for FinTechs, and low (or negative) profitability, often due to low lending volumes. On the other side of the Atlantic, some challengers have successfully grown their customer base thanks to their digital first / no contact offerings.
A new Prudential Regulatory Authority consultation on the UK Challenger sector observes that many ‘new banks have underestimated the development required to become a successful and established bank.’
Certainly, the European experience raises a question for challengers – is it enough to offer better, more digital experiences to a small customer base, or do you need to fundamentally rethink products and services to achieve sustained success? The current crisis has also put the spotlight back on balance sheet strength as a key enabler to banks’ resilience. Some challengers are now looking to lending pacts to put their balance sheets to work.
4. Costs have been saved - but there is a lot more to do
One-off costs during COVID crisis saw investment bank staff costs increase 10.4%, but the numbers were much better for lending businesses. For example, consumer banking business’ costs declined reflecting reduced headcount and lower marketing and advertising spend.
Some of these savings may only be temporary, but with revenue growth challenges likely to impact banks’ profitability over the near-term, cost remains the main lever to manage profitability. The last six months have highlighted the need for agility in bank operations and focused attention on structural cost reduction, including investment in technology to support efficiency, property optimization (including branch networks following changed customer behavior), and reduced travel budgets.
5. It’s time to accelerate the transformation
At the start of the pandemic it seemed possible banks would pause their transformation programs and focus exclusively on supporting their clients and employees. The message from the second quarter is that transformation is firmly back at the top of the agenda. The pandemic has demonstrated the urgent need to invest in technology and embed agility and scalability in business models. Particular attention is now being focused on the most paper-intensive parts of banks, with high degrees of manual intervention – such as trade finance. Key to success will be to select, resource and lead a well-balanced portfolio of initiatives to support customers, keep employees safe and motivated, while accelerating the banks' transformation and change program.
The views reflected in this article are my own and do not necessarily reflect the views of the global EY organization or its member firms.
* EY maintains proprietary benchmarks that assess global banks' performance at group, regional, and business division level (including consumer, commercial and SME, investment banking businesses). With over 70K data points, these assets inform EY's unique perspectives on the sector and help us bring strong benchmarking capability to our clients. These benchmarks have now been expanded to include some challenger banks.
Founder, CEO, Chairman - CustomerXPs and Clari5
4yQuite insightful!
EY Global and Americas Wealth and Asset Management Leader
4yGreat read, thanks for sharing, Jan! I agree that the key to thriving throughout the rest of 2020 and into 2021 will come down to the investment level made in new technologies. Increasing efficiencies through manual intervention and paper-based services can also help, but I believe there is also a large scope for the transformation of other services through technology, such as reimagining a firm's value chain through implementing AI.