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Retail bank confidence falls sharply, despite improving economy

18 April 2011 Ernst & Young

A survey released by Ernst & Young today indicates that banking confidence remains weak, with no clear recovery trend emerging. It is solely the retail segment of the banking sector that continues to feel pressure. Retail banking confidence hit a new all-time low in the first quarter of 2011, despite indications that household finances are generally in better shape than they have been for a while.

This is the 37th quarterly survey conducted to measure confidence in the banking industry, and the research is conducted by the Bureau for Economic Research in Stellenbosch.

Comments Emilio Pera, lead Financial Services Director at Ernst & Young, ‘Retail banking confidence fell sharply once again in the first quarter of 2011, continuing from the fourth quarter. Prior to that, it appeared that the banking sector per se, was on the mend, with retail banks particularly reflecting signs of recovery. Retail banks’ confidence slid from 38 index points in the previous quarter to the current lowest –ever level of 20 index points.’

On the plus side, says Pera, ‘investment banking confidence continued rising in the first quarter of 2011, indicating that their confidence levels are improving after an erratic two years. Investment bank confidence readings moved from (a revised) 42 index points in the fourth quarter to 55 in the first quarter of 2011.’

Pera adds, ‘The declining confidence in retail banking is surprising in light of other indicators measuring the financial health of households. Retail sales have been generally buoyant since December 2010, and motor vehicle sales have been similarly stronger. In addition, relatively tame inflation, coupled with gradual improvements in employment levels should all be supportive of retail banks’ prospects.’

He continues, ‘It appears that credit impairments were an influencing negative factor for bank confidence in the first quarter. Prior to 1Q2011, credit impairments were thought to have peaked, and were on a steady, albeit gradually improving trend-line. This situation appears to have reversed in the first quarter, with retail banks indicating that credit impairments rose again.’

‘Coupled with this, credit demand remains weak, both in the retail and corporate markets. Whilst credit growth has at least returned to positive territory, the overall levels are only marginally positive, and at single digit levels.’

Pera comments, ‘Retail credit growth remains particularly sluggish. The largest loan portfolio for banks is home-loans, and lending has been slow. This can be attributed to still very high indebtedness levels of individuals and the fact that property prices remain weak. However, the proposed Basel III regulations will have major implications for banks in terms of capital and liquidity requirements. Banks may therefore be purposely lowering their exposure to home-loan portfolios (relative to other loan classes) to re-align with the proposed future regulatory liquidity requirements.’

He adds; ‘The corporate sector is largely building cash reserves. However, companies are borrowing more than individuals, essentially to fund building up of inventory levels.’

Pera comments further on Investment banks, mentioning that ‘in contrast to the tough environment faced by their retail counterparts, they now appear to be recovering from the crisis, with sustained revenue growth. Business volumes are up across all the major categories of investment banking. In addition, credit impairment levels have remained relatively manageable through the crisis. Even though weak credit demand has hurt investment banks the same way it has affected retail banks, interest earnings have been stronger, largely due to a more benign bad debt experience.’

Pera believes that the turn-around in investment banking fundamentals looks more promising than it has previously, largely due to revived business volumes; ‘It has proved difficult for investment banks to forecast business flows during these times. Forecasts of a turnaround in business prospects have proved to be optimistic over the past two years. More recently, however, business volumes showed positive growth across most categories of business for two consecutive quarters.

Commenting on the recent reporting season, Pera points out that many banks made reference to a slow recovery, and the difficulty of forecasting growth into 2011. In addition, most banks have recently mentioned cost-containment measures, providing an indication that revenue remains generally squeezed. In this environment, costs have to be carefully managed, and most banks are critically assessing core costs, and postponing less crucial expenditure, where possible.’

Pera concludes, ‘Sustained weak retail bank confidence, despite being out of sync with other economic indicators, is largely due to pressured revenue growth prospects. Although investment banks struggled immediately post the financial crisis, their outlook is looking decidedly more upbeat than it has for a while. Retail banks, on the other hand, continue to face sluggish revenue growth, led by weak credit growth, as they struggle with bad debts and growing capital constraints.’

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