Comments on dividends and buybacks for Q4’21 have dominated the publication of banking sector results. Although regulatory restrictions still apply, most banks want to compensate their shareholders for the dividends they did not pay through special dividends and buybacks in Q4’21. This will result in high payouts at the end of the year. So far, dividend futures of December 2021 STOXX Banks EUR Price index are up 55% year- to-date versus the index which is up 12%. Based on proposed dividends, banks offer a dividend yield of 5% on average in 2021 and some more than 10%. On aggregate, the sector’s capital is very ample at 14.7% CET1, some 480bp above minimum requirements. During 2021/2022 we expect 18 banks to do buybacks (46% of those we cover), a sharp increase compared to the 7 which executed buybacks before the pandemic. With the sector trading at 0.7x Tangible Book Value, it makes perfect sense for them to make use of buybacks.
Top picks to play it (all on overweigth recommendation):
a. ING, 11% yield: we foresee positive operations thanks to cost control, rebound in net interest income and possible simplification of the business model.
b. Natwest, 10.5% yield – top pick in UK. The strength in the mortgage market and the deepening of the UK curve means we are above consensus on net interest income. Provisions could be at normalised levels or below as early as 2021. With a CET1 of 18.5% we expect a double-digit total return in 2021-2023.
c. Nordea, 11.5% yield – has performed 25% worse than its peers in 6 months. Positive EPS momentum and high dividend yield should reverse the above. It trades at 1x Tangible Book Value, with 10% ROTE in 2022 and excess capital.
d. Bawag, 13% yield – committed to distribute 2019 and 2020 dividends on a 50% payout plus a special dividend thanks to strong organic yield. Offers the highest dividend yield, while its rapid normalisation of provisions and excess capital allows the payout to be credible. ROTE of 13% and 9x P/E in 2022.
Context on asset quality and NPLs one year after the start of the pandemic
2020 marked a turning point in the credit cycle after 9 years of economic expansion. European banks provisioned 91 billion euros, about 80bp in cost of risk terms. Although this is a significant increase, the trend in Q3 and Q4 came in better than we expected. This cycle is different from previous recessions, it has peaked much earlier and the impact will be more benign. Looking 3 years ahead (2020-2022), the cumulative cost of risk we estimate will be 180bp vs 350bp on average during the Great Financial Crisis and the sovereign crisis. Some 40% of cumulative provisions have been precautionary. In 2021, we expect provisions to fall 30% YoY to 60bp, before normalising to 40bp in 2022. That does not mean we do not expect NPLs to rise as fiscal support is withdrawn, but against a backdrop of a recovering economy and manageable NPL coverage. Last year’s NPL formation was moderate (currently the ratio is at 3.5% in the Eurozone and 2.8% in Europe). Unsurprisingly, migration to phase 2 was high at 10.8% in the Eurozone (10% in Europe), equivalent to a 340bp YoY increase. Coverage levels improved across all stages, with provisions vs NPLs at 45% and stage 2 at 4%, high vs historical levels. In our estimates, Eurozone banks can afford an increase in the NPLs ratio to 4%.
Top picks in the sector:
BNP, Unicredito (watch out because, unlike the rest of the sector, in this stock estimates have not yet rebounded remaining at 0.9 euros forecast for 2021 versus the 1.24 euros we predict. And this is despite the announcement of buy backs, 6% yield, lower provisioning expectations, macro improvement … and Draghi).
Santander, NatWest to play the reopening of Europe.
ING, Svenska for operational improvement and Credit Suisse and Julius Baer for their Equity exposure.