Bank bosses bragged at the start of the coronavirus pandemic that, unlike the financial crisis, their institutions would help save rather than overthrowing the global economy. But for many of their shareholders, 2020 was the year that European lenders came close to being uninvestable.
Despite a recent slight rebound, European bank stock prices are down about a quarter this year. Industry executives fear that the flight of investors from the sector will mean that lenders will have a harder time raising capital in future times of stress.
European banks have had to set aside more than 100 billion euros in additional capital this year in preparation for sour loans – an increase of 150 percent compared to a year earlier. But the biggest damage to their reputation with shareholders was the cancellation of nearly € 40 billion in dividends following pressure from regulators.
“This has clearly changed the investment argument for European banks,” said Jaime Ramos-Martin, global equity manager at Aviva Investors, a UK fund manager, which controls £ 346 billion in assets.
In March, the European Central Bank ordered the 113 lenders under its supervision to suspend 30 billion euros payments to shareholders a few days after the spread of the coronavirus pandemic in Europe.
Weeks later, the UK’s Prudential Regulation Authority, a branch of the Bank of England, appealed to UK lenders follow the example. After initially resisting the pressure, the UK’s five largest banks conceded and canceled dividends worth £ 7.5bn.
Equity investors have traditionally viewed banks as strong, but low-growth businesses that can be relied on to deliver stable income. “But the dividend ban means that thinking doesn’t really work anymore,” Ramos-Martin said.
The bank bosses were caught in the middle of a tense confrontation. On the one hand, their regulators have prioritized building capital buffers in anticipation of a surge in defaults. On the other hand, their investors demanded a resumption of payments.
“All he has done is undermine investor confidence and it is a major breach of trust with our shareholders, one that they will not quickly forget,” said the CEO of a large British bank. “It will make future fundraisers more expensive. In addition, it was unnecessary, the industry did not need it, we had and have solid capital.
Robert Swaak, chief executive of ABN Amro, the Dutch majority-owned bank, added that the dividend ban has been a key point of discussion with investors this year. “Shareholders talk a lot about returns,” he said. “What we feel is what any bank feels.” ABN shares have fallen about 50 percent this year.
The dividend bans have drawn criticism from some shareholders, including those of HSBC. Although the lender is listed in London, a third of its shares are held by Hong Kong-based retail investors who rely on its dividend as income.
Thousands of individuals threatened to sue HSBC for its decision to cut dividends for the first time in nearly 75 years. The question has reignited a debate over whether the bank should move its headquarters to Asia, where it gets the most out of its revenue.
“Regulators are too focused on capital strength and under-focused on profitability and the ability to recapitalize in a crisis,” said Julian Wellesley, senior global equity analyst at Loomis Sayles, a US investment group with $ 328 billion in assets. “If you make banks incredibly unattractive from a capital perspective, you can hurt them in the long run.”
Throughout the year, bank bosses lobbied regulators to allow them to resume paying dividends.
Speaking at an online event in September, the presidents of Société Générale and Santander, Lorenzo Bini Smaghi and Ana Botín, each criticized the ECB’s position. Mr Bini Smaghi said the policy made the banks’ non-investable ‘, adding:’ The ban on distributing dividends. . . is a move that scares investors from entering the banking industry. “
Ms Botín argued that European regulators were giving her American competitors an advantage.
Debt investors also pushed for a resumption of dividends. “If a bank runs into trouble, it needs to access the equity capital markets to restore its buffers,” said Marc Stacey, senior portfolio manager at fixed income specialist BlueBay Asset Management. “Low book values and stress on stocks are absolutely important for bondholders.”
After testing the capital positions of the banks, the PRA and the ECB finally gave in to industry calls. This month they announced they would authorize the payment of dividends next year, but with heavy restrictions in place.
British banks will be able to pay dividends of up to 25% of their cumulative profits over the previous two years and 0.2% of their risk-weighted assets. Eurozone banks, meanwhile, have had tighter limits of 15 percent of earnings over the previous two years and no more than 0.2 percent of their level one common stock ratio.
UBS analysts estimated that dividend yields would fall across all euro area banks by an average of 3.5% to 1.5% due to the limits. More profitable banks with stronger balance sheets – like Nordic lenders, Intesa Sanpaolo from Italy and ING from the Netherlands – will be hit hardest.
UK banks would have a lot more leeway, with potential dividend yields ranging from 1.6% at Lloyds and 3.2% at Barclays.
Despite the binding conditions, the lifting of the dividend bans gave bank executives reason to be optimistic about the possibility of starting to put a tough 2020 behind them.
“It has not been an easy year, it goes without saying, but the banks in Europe – and certainly Société Générale – are in a much better position than one thinks,” said Frédéric Oudéa, managing director of the lender. French, whose share price is down about 45 percent this year.
“Hopefully, quarter after quarter, step by step, things will improve.”
Additional reporting by Stephen Morris in London and David Keohane in Paris