2022 Outlook – European Banks in the sweet spot among persistent inflationary pressures.
Global interest rates, particularly in the front-end, have ratcheted up dramatically in recent months as the high levels of inflation globally have been less transitory than monetary authorities had predicted. The Bank of England has already hiked, the Fed has accelerated its tapering of QE, and even the ECB has had to push back on market expectations for a hike as early as the end of 2022. Needless to say, most European bank stocks do not currently embed any upside potential from rates hikes, with estimates not baking in any benefit and with multiples of rate-sensitive stocks trading at discounts (versus at a premium in the US). However, with Eurozone inflation now running at the highest level since formation of the single currency, chances are certainly increasing that the ECB may eventually follow in the footsteps of the BOE and Fed, and any increase in the base rate would be a huge benefit to the sector. In some cases like Commerzbank, a few hikes could double earnings. While not currently our base case for 2022, should inflation continue to remain elevated and harder to tame than monetary authorities predict, European banks would benefit immensely and thus act as a very potent inflation hedge.
Q4 results season – Capital return at the forefront.
Capital return has been a strong driver for European banks ever since the dividend ban was finally lifted in September. During the 1.5 year period of the ban, European banks accumulated significant amounts of capital, and loan losses came in at a fraction of what had been initially feared. Since then, individual announcements of large payouts – including share buybacks for the first time in 15+ years for many European banks – have driven the forward-looking yields north of 10% for several high quality banks. We expect more such announcements to occur in Q1 concurrent with Q4 results, and/or during capital markets days where new business plans are presented. Further, we believe such high yields are unlikely to persist – double digit yields are typically accompanied by weak balance sheets, not companies emerging from a recession with record levels of excess capital. As the market digests these large yields, we expect them to continue driving the re-rating closer to the 3.5% long-term average for the sector.
SocGen’s ALD to acquire LeasePlan.
M&A activity remains elevated, with companies shifting gears from opportunistic acquisitions at distressed prices to more strategic deals that foster competitive advantage. Last week SocGen announced that its auto leasing subsidiary ALD would acquire LeasePlan for €5bn. The deal will create a dominant auto leasing business in Europe through the combination of the #1 and #2 players, and based on management’s guided synergies will be 5% accretive to SocGen’s earnings. We believe there is more upside to synergies and expect the gradual realization of this to provide further positive revisions to earnings estimates. In addition, the deal consumes only 40bps of SocGen’s capital, leaving the door open for them to increase capital distributions as many of their peers are doing.
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