Absorbing costs flashily is a way to show your vigour. Some antelope do it by “stotting” — leaping energetically as they retreat from danger. Some European banks will do it with hefty loan loss provisions. They would prefer to pay out dividends or buy back shares. But regulators, most recently the European Central Bank, are extending bans on such unseemly displays.
Setting aside capital to cover non-performing loans may therefore stand as a counter-intuitive proxy for dividends to come.
The top 20 lenders in the Stoxx Europe 600 banks index shelled out almost €45bn to shareholders last year. This year, they will pay virtually nothing.
The one-size-fits-all curb on dividends and buybacks has three justifications: pragmatic, because profits will inevitably be lower; precautionary, because a second wave would reduce returns further; and cosmetic, because banks, as state-guaranteed utilities, cannot be seen to prosper when local economies are struggling (spare a thought for HSBC, an Asia-focused lender headquartered in London).
Politicisation will persist after Covid-19 abates. European banks are unattractive investments as a result. Opaque accounting is another discouragement. The relatively new IFRS 9 standard on loan losses is a case in point. This replaces a bald test of incurred loss with a forecast of non-payment from borrowers expected to struggle. As Eoin Mullany, analyst at Berenberg, wryly puts it: “When your estimate is based on another estimate, your margin for error widens.”
Greater latitude also allows bullish bank bosses to front-load loan loss provisions more easily. The central case of consultancy Oliver Wyman is for European loan losses of about €400bn in 2020-22. That is 150 per cent higher than in the previous three years and equivalent to the write-offs for the eurozone financial crisis.
A bank that is taking more than its apparent fair share of loan losses in the current earnings season may genuinely be in trouble. Equally, it may just be showing it is in rude health. Other financial strength indicators should help investors sort the sheep — or rather the antelopes — from the goats.
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