It’s almost been the perfect storm for banks in 2016, but the Canadian banks are coming through the turmoil relatively unscathed.
Tepid global economic growth, exposure to leveraged energy companies, negative central bank policy rates, lower capital markets revenue, non-performing loans, and regulatory changes have been weighing on banks globally.
The slaughter of bank stocks has been one of the nasty surprises of 2016, however, it is unlikely to be symptomatic of another banking crisis like 2008. Banks hold more capital than pre-2008 and many have sold unprofitable or capital-intensive business lines. Banks also carry more liquid assets and are better able to withstand market freezes for funding opportunities.
European banks have suffered the most. The Euro Stoxx 600 Banks index is down 20 percent year-to-date. In comparison, the S&P 500 financials index is down 11.5 percent and financials in the TSX are down just 3 percent. The financials sector of these broad stock markets indices is one of their worst performers year-to-date.
Banks play a critical role in economic growth as they supply the financing needed by companies to expand. When times are good, banks grow their loan portfolios, but, for example, as the oil and gas sector struggles, the credit worthiness of those borrowers worsens. The oil and gas industry is a perfect example where banks have had to increase reserves for credit losses, thus hurting profitability.
Fee business for banks is also drying up. With highly volatile financial markets, initial public offerings have been few and far between. Capital markets revenue, especially in fixed income, is also under pressure.
Negative Rates
The Bank of Japan recently joined its major European peers in adopting a negative interest rate policy (NIRP)—Japanese banks will now be charged a fee on a portion of their deposits at the central bank.
While the policy is meant to encourage banks to lend—and thereby spark the economy—it’s a double-edged sword. Negative interest rates become another cost banks have to pass on to consumers to maintain their margins.
