How much are Spanish banks worth?

Euro coins

The pre-provision operating profit of the banking in Spain, which is the real driver of profitability in a normalized situation, is today nearly 20% below 2007 levels in most of banks. However, considering the capital increases carried out over the past seven years, the earnings per share is at around half its 2007 level. Regarding the pre-provision operating profit, Sabadell and Bankinter are exceptions since they have achieved to increase it despite the crisis.

As Banco Santander CEO José Antonio Álvarez explained earlier this month, sector’s profit is half than before the crisis, while capital is the double; so the return on equity (ROE) decreased from 20% to 7% or 8%. Álvarez predicts a European banking system more similar to the American one with strong local banks, regional banks operating in 10/15 countries and pan-European banks with significant shares in the Eurozone, much higher than today’s (the largest share is currently 2% – 3%, compared to 10% that Bank of America or Wells Fargo have in the US).

In the ‘XXII Meeting of the financial sector,’ Angel Cano, CEO of BBVA, summarized in four figures the restructuring effort undertaken by the Spanish banking sector between 2008 and 2014: Provisions of nearly € 300,000 million, more capital to the value of € 50,000 million and 30% reduction in the number of branches. The deposits remain at similar levels (above the 100% of GDP) while credit has contracted (purging previous excesses) to 130% of GDP in 2014 compared to 170% in 2008. Thus, the evolution of both indicators since 2000 continues similar paths now (increases equal to 47% of GDP for deposits and to 45% for credit).

The future ROE will determine the price-to-book ratio and consequently the stock price of banks, as it has done in the past. If in the past a ROE of 10% could account for a price-to-book ratio of 1, that ROE could now account for a P/B ratio of 1.25, with long term reference rates that could be consolidated at levels at least two percentage points below the past. Similarly, a ROE of 12% could explain a P/B ratio of 1.50. In short, highly profitable banks could trade at 1.5 times their book value and the less profitable ones at 1.0.

The stock value keep having potential to rise, insofar as we expect improvements in the ROE. In general, it is foreseeable that the Spanish retail banks are able to get ROEs higher than 12% in a normalized provisions environment. So they should tend to trade at around 1.5 times the book value compared to 1 time at which they are currently trading.

 

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