After a notable drop in the first quarter, loan loss provisions at Europe’s largest banks are expected to continue to decline in the second quarter of 2021 and beyond, but lenders are likely to retain some of them. analysts believe their reserves associated with the pandemic will increase.
Uneven economic recovery in European countries, continued uncertainty about the full impact of COVID-19 following the end of government aid schemes, and concerns about regulatory containment could deter many banks from repealing the regulations.
As bank profitability remains under pressure, reserves will be a “bright spot” in the second quarter and in 2021, Giles Edwards, senior director of financial services ratings at S&P Global Ratings, said in an interview. A decrease in loan impairment charges and some improvement in fee and commission income from the recovery in economic activity will be the main factors behind the increase in bank profits in 2021, while net interest income will remain a drag, the rating agency said in a June 24 announcement. consideration about 60 European banks.
Profitability will remain a weak spot for European banks, given that COVID-19 will prolong the low interest rate environment. This was stated in an interview by the Deputy Managing Director of the group of financial institutions of the rating agency Moody’s Alain Laurin. Fee and commission income is still only a small part of the total income of many European banks, and this is not something that they can change with a stroke of the pen. Laurin said. Banks will also face increased costs as the need for IT investment and efficiency gains has increased amid the pandemic, according to Laurin… “Banks that are serious about their future must spend money to invest in digitalization,” – he said.
First quarter recovery
Many European banks built up significant reserves amid the 2020 pandemic, and in the first quarter of 2021, the risk level decreased, and some even freed up reserves they had set aside to cushion potential COVID-19-related loan losses. Eight of the 25 largest banks in Europe issued reserves in the first quarter, with Britain’s Lloyds Banking Group PLC fixing a maximum issue of € 405 million. All other banks in the sample reflected loan loss provisions well below the level of the previous year.
The decline in reserves boosted net profit in the first quarter, with 23 of the 25 banks included in the sample showing year-on-year profit growth. The only two banks that recorded a loss during this period were ABN AMRO Bank NV, based in the Netherlands, which was supposed to cover an anti-money laundering settlement of € 480 million, and Credit Suisse Group AG, which suffered a loss of 4. 43 billion Swiss francs from the collapse of the American hedge fund Archegos.
Adhering to provisions
While loan loss provisions are gradually decreasing in 2021 and are expected to be lower than in 2020, Edwards said they will remain high compared to pre-pandemic levels. Some data will be released in the second quarter and later this year, but S&P Ratings expects most of the 100 largest European banks “will continue to have significant credit losses this year,” Edwards said. “Management teams will try to hold on to their linings as long as possible,” he said.…
Acting out of caution due to uncertainty about the impact of the pandemic, many banks have applied guidance overlays, which are additional buffers for expected credit losses, or expected credit losses, in line with current international financial reporting standards.
As for the expected release from reserves, banks are likely to remain safe and hold on to their reserves until there is more clarity about the economic recovery, Laurin said. Banks may also hesitate to release reserves too early due to expectations that supervisors such as the European Central Bank or A unified supervisory mechanism, which includes the ECB and national regulators, would object Laurin said.
So far, the projected costs of the pandemic for the banking sector have been factored in and reflected in a sharp increase in the number of provisions envisaged for phase 2 in 2020. – said Lauryn. In accordance with the accounting standard IFRS 9, applicable in Europe, assets are classified into three stages of credit risk: stage 1 are performing assets, stage 2 are assets that have experienced a significant increase in credit risk since their initial recognition in accounting bank books, and stage 3 are non-performing assets. Provisioning for Phase 2 assets requires banks to reserve expected credit losses for the entire life of the asset, not just the next 12 months, as is the case for Phase 1 assets.
This year could be a transitional year in terms of creating reserves, because the risks have not yet materialized, Laurin said… Depending on the pace of economic recovery and the termination of state support in the regions, these risks may hit banks in 2022 or even later, in 2023. Laurin said…
The additional funds provided by the EU will certainly support the private sector and, ultimately, the banking system. For the reserve levels in the second and third quarters of 2021, this means that the reserves in stage 3 will remain fairly stable, while reserves in stage 2 will decrease compared to the levels of the previous year. – said Loreen.