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Banking Sector Report - August 2017


In August US Banks decreased by 3.1% MoM vs flat dynamics of S&P 500 Index. SPX continues to outperform financial sector YTD: +10.4% vs +1.3% of BKX index and this gap markedly increased in the last month. Absolute August performance was -0.7 std from the mean monthly performance. This result is in the bottom 22% of absolute monthly performance of BKX Index. Relative monthly outperformance vs SPX index in August was -3.2% and it is -0.7 std from the mean monthly performance. This result is in the bottom 17% of relative performance of BKX index vs SPX.

After the solid performance in July due to June rate hike and positive CCAR results, banks quotes took a breath in August because of ongoing uncertainty with reforms and further rate hikes given still relatively high multipliers. The laggards of August were mostly regional banks with a high share of CRE or auto loans or both. Outperformers were mainly banks with weak YTD dynamics.

August macro data was better than it was few quarters ago but it remains not as strong as it was in the beginning of the year. Citi economic surprise index significantly increased from June lows but it still stays in deeply negative territory. C&I macro drivers were mixed with positive surprises for durables, empire manufacturing, payrolls and negative reading for industrial production, ISM manufacturing and construction spending. C&I fundamentals remain strong but it hasn’t transform in C&I loan growth acceleration yet. CRE macro drivers continue to demonstrate healthy state but it seems that majority of indicators have already shown their peaks of this cycle and we begin to see some imbalances between price dynamics and fundamentals in the sector. Recent data from housing market was inconsistent in August. On the one hand, we see strong homebuilder confidence, rising prices and low levels of inventories. On the other hand, housing starts, building permits, both new and existing home sales were relatively weak recently.  Most measures of consumer activity continue to demonstrate strength. Conference Board Consumer Confidence increased by 2.9 pts in August to 122.9 points (vs expectations of 120.7 pts). Consumer sentiment index of Michigan University was also better than expectations, 97.6 pts in August vs expectations of 94.0 pts. Nonfarm payrolls were substantially better than expectations in July (209K vs 180K) after also strong figures in the previous month, which were revised up from 222K to 231K.

July Senior Loan Officer Survey mainly confirmed previously emerging trends. Banks continue to tighten standards in CRE (eighth quarter in a row) and auto (for five consecutive quarters), but it hasn’t transformed in significant deterioration of asset quality of both segments yet. In turn, banks indicated that demand in these segments has remained weaker. C&I lending standards were basically unchanged to both small firms and large and middle-market firms, but technically, banks slightly eased standards for the second consecutive quarter after tightening standards 6 quarters in a row. Banks also tightened lending standards on credit cards, whereas standards on other consumer loans remained basically unchanged. SLOOS results imply that banks prefer to take ‘wait and see’ position in the current stage of the business cycle.  Answering on the special questions, banks also noted that C&I standards remained easier respective to 2005 ranges while CRE and mortgage standards are tighter.

Treasury yields decreased significantly during August as probability of another rate hike in this year markedly decreased after the release of Fed minutes. Market-implied probability of a rate hike till the end of the year is just 34% at the moment vs around 60% in the beginning of July. But the long end decreased more significantly than short one, so the yield curve continues to flatten. And it is not good news for banks which have already started to observe rising deposit betas. We don’t expect significant news from the nearest FOMC meeting. Yes, it is probably that the FED will announce the start of process of balance sheet normalization but it is already in the prices, from our point of view. The market will focus on raising debt limit and a process of approving of the spending bill. The uncertainty around these events could drive US banking quotes lower as loan growth is still weak, rates declined while valuations continue to be rich. We don’t expect that debt ceiling debates will be as hard as it was in 2011 but the compromise on this issue could have negative effect on tax or other promised reforms. Of course, financial position of both US banks and EU financial institutions is currently much stronger than it was in 2011 and negative price reaction will be restricted in case of long debates, but definitely, it will add some nervousness to the market in the near future.  

In August EU Banks decreased by 3.6% MoM vs -1.1% of STOXX 600 Index. EU banks continue trading in the narrow sideway channel for more than 4 months (177-191 pts on the SX7P index). Absolute August performance of SX7P was -0.6 std from the mean and this result is in the bottom 21% of absolute monthly performance of SX7P since the index inception. Relative outperformance of SX7P vs STOXX 600 index in August was -2.6% and it is in the bottom 20% of relative monthly performance vs STOXX 600 (-0.7 std).

RBI and CYBG were the main outperformers in August. RBI showed good quarterly results in the end of July and the market continues to take a lead from these results. 2017 EPS estimates of RBI increased by 7.9% in August. CYBG showed skyrocketing growth in the beginning of the month due to upgrading its FY cost guidance and reaching its pension agreement. CYBG added +9.3% in the day of announcement vs +0.8% of SX7P index. In turn, STAN and DBK showed very weak dynamics because of poor quarterly results, -9.1% MoM and -10.7% MoM, respectively.

European macro data continues to demonstrate strength and indicates that EU economic recovery is on track. Composite PMI, which is well correlated with GDP growth, stayed near a six-year high in August. Preliminary composite index increased by 0.1 pts from July level of 55.7 pts, beating estimates of 55.5 pts. PMI figures indicate that we will see strong GDP growth in 3Q17. Consumer confidence continues to rally and it is currently near the highest level since 2001 year. Current consumer confidence is by 3.7 pts higher than it was in the end of 2016.  In turn, 2Q17 EU GDP figures were relatively strong, showing growth of 0.6% qoq or +2.1% yoy. But 1Q17 figures were revised down from 0.6% qoq to 0.5% qoq. The key positives of the last figures are broad-based character of EU recovery and stable character of the current growth of economy. The dispersion of growth rates of EU members is near the lowest level in 20 years.

The key August event from EU rates point of view was the speech of ECB President Mario Draghi at the Jackson Hole, but it didn’t give us any new information regarding further ECB’s monetary policy. Despite July meeting was more dovish than it had been expected, we didn’t hear later any signs of certainty of announcement of tapering in early Autumn neither from Mario Draghi nor from other Governing Council members. So, EU generic yields significantly decreased across the yield curve in the last month. The next ECB meeting will be held on 7 September, where we could hear further signs of tightening monetary policy but currently it is less probable then before that we will hear tapering news in September, it is more likely that these news will be announced later, at the end of October. Further ECB tapering signals are critical for EU banks’ dynamics as any negative sign around ECB policy normalization in the next ECB meeting could cause underperformance of EU financial sector given significant growth of SX7P index in the last year among other things on expectations of a forthcoming tightening of the monetary policy.

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