News


13/03/2017


Flagstone Bank Credit update 13 March 2017

Monthly Headlines:
  • Various economic data appear to support the view that the UK economy is likely to slow down this year despite the ONS predicting that the UK economy is likely to grow by 2.0% (up from 1.4% previously).
  • Analysts believe that slowing UK consumer spending has begun to hurt service companies which they interpret as a warning signal for the UK economy ahead of the start of the Brexit negotiations.
  • UK factory output and exports both grew at their strongest pace in years as the fall in sterling boosted manufacturing while the trade deficit narrowed after an 8.7% increase in exports over the same period.
  • The Bank of England plans to help smaller banks to compete against their larger rivals as the BoE seeks to reduce the disparity in capital adequacy rules that makes it more expensive for smaller banks to lend.
  • Lloyds Banking Group plc has set aside a further £350 million to cover payment protection insurance (PPI) mis-selling claims, taking its total bill so far to £17.4bn.
  • Headline financial results announced by most banks that have a 31 December year-end indicate that most have taking steps to strengthen their capital adequacy ratios through internal balance sheet management.
  • Although the FTSE 350 Bank Index has fallen slightly by 1.0% over the month to 4,319, the share prices of many eurozone banks rose strongly on encouraging annual results so far for the 2016 financial year.
  • The ITRAXX Europe Senior Financials 5-year CDS Index improved by 5.4% over the month to 87bps as the markets reflect improving economic conditions and shrug off perceived future regulatory challenges.
  • HSBC Holdings plc has reported a fall of 62% in its annual pre-tax profits to £7.1bn for the 2016 financial year which compares with£18.9bn a year earlier.
  • Lloyds Banking Group plc has reported a 7% fall in annual pre-tax profits to £1.6bn for the 2016 financial year which compares with £1.8bn a year earlier.
  • The FTSE 350 Bank Index fell by 5.1% over the week to 4,242 due to the mixed results reported for the 2016 financial year caused mainly by one-off factors and the perceived challenges ahead for European banks
Monthly Commentary:

Various economic data released over the last month appear to support the view that the UK economy is likely to slow down this year – after Article 50 has been triggered by Prime Minister, Theresa May – despite the more optimistic predictions from the Office of National Statistics (ONS), as contained in the Chancellor’s budget announcements, that the UK economy is likely to grow by 2.0% this year (up from the previous forecast of 1.4%).

In particular the latest Markit/CIPS Purchasing Managers’ Index (PMI) survey results for the important UK services sector indicates that the UK’s unexpectedly strong economic growth position since the Brexit vote last June may be starting to fade as inflation picks up. The services PMI indicator fell to a five-month low of 53.3 in February, from 54.5 in January. This suggests that the economy is now expanding at a quarterly pace of around 0.4% (1.6% annualised) which is much slower than the 0.7% rate achieved during the fourth quarter of 2016.

Analysts believe that slowing UK consumer spending has begun to hurt service companies which they interpret as a warning signal for the UK economy ahead of the start of the Brexit negotiations to leave the European Union (EU). A sharp rise in UK Inflation could be the Achilles heel that dampens consumer spending and reduces growth in the important UK services sector. The main reason for expecting a rise in UK inflation is the likelihood that the value of sterling against the U.S. dollar will fall further due to the surge in U.S. employment figures for February in the first full month of Donald Trump’s presidency. These numbers were much stronger than economists had expected and have made it almost certain that the US Federal Reserve will raise interest rates this month as part of a possible series of increases over the rest of the year. On the other hand, most analysts expect the Bank of England (BoE) will hold UK interest rates at the current level all year – which should weaken the value of sterling – in order to support the economy during the initial ‘tough’ political rhetoric stage of the Brexit negotiations. Analysts caution that the tough rhetoric period is likely to be pro-longed ahead of the upcoming elections in France, Germany and the Netherlands with a more conciliatory commercial tone and the framework of a fair deal more likely to emerge thereafter.

However there was some good news during the month as UK factory output and exports both grew at their strongest pace in years as the fall in sterling boosted manufacturing. Production between November and January was at its most impressive since 2010, according to the ONS. The trade deficit also narrowed after an 8.7% increase in exports over the same three-month period, the best performance in more than a decade. The ONS cautioned that the improved export performance was driven by erratic goods such as oil and gold which tend to distort the underlying picture. Economists seized on the data as evidence of the much-awaited rebalancing of growth from consumption towards manufacturing and which should help in some way to offset any future reduction in consumer spending.

The BoE has announced that it plans to take steps to help smaller banks compete against their larger high street rivals as the BoE seeks to reduce the disparity in capital rules that makes it more expensive in capital terms for smaller banks to lend. In a statement, the Prudential Regulation Authority (PRA) said that it would be refining its capital rules that currently give big banks far more leeway under their ‘internal risk-based’ (IRB) models to decide how much of a loss-buffer they need to have against any given loan. By contrast smaller lenders must use a ‘standardised’ approach whereby risk weightings are pre-set for everything from mortgages to corporate loans. In effect, this means that smaller banks have to assign a much higher risk weighting against exactly the same quality of loan compared with a bigger rival.

Lloyds Banking Group plc has set aside a further £350 million to cover payment protection insurance (PPI) mis-selling claims, taking its total bill to £17.4bn. The UK’s largest high street lender announced the new expense after the financial regulator ended months of waiting (by the banks) to confirm that it would introduce a two-year deadline for claims. The final date of 29 August 2019 is two months later than had been hoped, requiring Lloyds and probably others to boost provisions. PPI is the UK’s biggest mis-selling scandal and is estimated to have cost banks a total of £41.0bn in redress and administration costs. As well as the timeframe for claims, banks are now required to take account of a landmark ruling by the UK Supreme Court in 2014 that a claimant was due compensation for PPI mis-selling because the claimant had paid 72% commission on the product which was deemed to be unfair because the commission payment was not properly disclosed. The Financial Conduct Authority has recently decided that banks must write to customers whose claims were previously rejected but who had paid commission and could be eligible for a refund. Under the regulator’s terms, consumers could gain compensation for any commission that was paid above 50% of the PPI value.

During the month, Fitch upgraded the long-term credit rating of Nationwide Building Society by one notch with a “Stable” outlook to reflect their view that the Society’s qualifying junior debt (QJD) buffers are now sufficiently large to provide protection for senior unsecured creditors in case of the society’s failure. Fitch also revised down the outlook on the long-term rating of Santander UK plc (as well as its parent holding company & subsidiary, Abbey National Treasury Services plc) to “Stable” from “Positive” to reflect their view that the weaker prospects post-Brexit may make it more difficult for the group’s earnings to benefit from a diversified business mix. Both Moody’s and Fitch have applied “Negative” outlooks to the Co-operative Bank plc in reaction to the announcement that the Bank is up for sale. Subsequently, the bank has reported a loss of £477 million for the 2016 financial year and so is expected to breach its regulatory capital ratios.

The headline financial results have been announced by most banks that have a 31 December year-end with most taking steps to strengthen their capital adequacy ratios through internal balance sheet management. So far only Deutsche Bank AG has announced a significant rights issue of €8.0 billion to raise fresh capital.

See below for 5-year CDS spread and share price movements for the last week.
5-YEAR CDS SPREADS AND SHARE PRICES
Monthly Movements
Date: 13th March 2017
5-Year CDS Spreads (bps) Equity Share Prices
Financial Institutions 10-Mar-17 10-Feb-17 Chg 10-Mar-17 10-Feb-17 Chg
ABN AMRO Groep N.V. n/a n/a n/a 23.77 21.60 +10.0%
Parent: Aldermore Group plc
Aldermore Bank plc n/a n/a n/a 2.23 2.28 -2.2%
Irish Sovereign
Allied Irish Banks 62 69 -10.1% 5.10 5.30 -3.8%
Parent: Arbuthnot Banking Group plc
Arbuthnot Latham & Co. n/a n/a n/a 14.50 14.56 -0.4%
Aust and NZ Banking Group Ltd 56 60 -6.7% 31.95 29.49 +8.3%
Banco Bilbao Vizcaya Argentaria S.A. 115 118 -2.5% 6.89 5.97 +15.4%
Parent: Barclays plc
Barclays Bank plc 69 78 -11.5% 2.32 2.29 +1.3%
BNP Paribas S.A. 87 90 -3.3% 61.86 55.70 +11.1%
Parent: Close Brothers Group plc
Close Brothers Limited n/a n/a n/a 15.36 15.13 +1.5%
Credit Agricole S.A. 77 80 -3.8% 12.65 11.40 +11.0%
Parent: Credit Suisse Group AG
Credit Suisse AG 108 115 -6.1% 15.58 14.60 +6.7%
Deutsche Bank AG 127 157 -19.1% 18.26 17.80 +2.6%
Parent: HSBC Holdings plc
HSBC Bank plc 59 67 -11.9% 6.67 6.87 -2.9%
Parent: ING Groep N.V.
ING Bank N.V. 64 63 +1.6% 14.62 13.42 +8.9%
Intesa Sanpaolo S.p.A. 141 148 -4.7% 2.43 2.13 +14.1%
Parent: Investec plc
Investec Bank plc n/a n/a n/a 5.95 5.72 +4.0%
Parent: Lloyds Banking Group plc
Lloyds Bank plc 59 68 -13.2% 0.69 0.66 +4.2%
Metro Bank plc n/a n/a n/a 34.52 36.01 -4.1%
Nordea Bank AB 46 46 0.0% 109 108 +0.9%
Parent: RBS Group plc
Royal Bank of Scotland plc 86 104 -17.3% 2.45 2.29 +7.0%
Ult. Parent: Banco Santander S.A.
Santander UK plc 77 79 -2.5% 5.49 5.04 +8.9%
Shawbrook Group plc
Shawbrook Bank Limited n/a n/a n/a 3.10 2.64 +17.4%
Societe Generale 86 89 -3.4% 47.75 42.39 +12.6%
Parent: Standard Chartered plc
Standard Chartered Bank 80 92 -13.0% 7.41 7.95 -6.8%
Svenska Handelsbanken AB 43 41 +4.9% 127 131 -3.1%
Unicredit  S.p.A. 169 176 -4.0% 14.30 12.64 +13.1%
FTSE 350 BANK INDEX n/a n/a n/a 4319 4364 -1.0%
SNR FIN ITRAX CDS 5-YEARS 87 92 -5.4% n/a n/a n/a

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