Foreign banks have been facing difficulties non-stop since the
latest financial crisis, which triggered off as a credit issue in
the subprime enclave of the U.S. mortgage market in mid-2007, and
spilled all over the globe. The latest deterrents -- nagging
macroeconomic issues, the European sovereign debt crisis in
particular, and regulatory pressure -- also resulted in the
sector's latest underperformance.
Moreover, the upcoming quarters look even worse with several
negatives like asset-quality troubles, weak revenue growth, steeper
costs and weak loan demand. But thanks to the worldwide regulatory
reform, the sector has at least entered a transformation phase.
Needless to mention, a change is yet to be felt.
The sector entered 2012 with a lot less momentum than anticipated.
Rising concerns related to funding and limited access to market
along with other fundamental challenges are not expected to bring
stability anytime soon.
A Fundamental View
Looking at the fundamentals, a rising risk aversion tendency has
been gradually reducing client activity, resulting in lower trading
volumes and subdued credit demand. Also, learning from past
experience, banks are now more cautious to lend money.
Consequently, lower business activities and expected subdued
profitability are making foreign banks less attractive to
investors. Valuation multiples of foreign banks will continue to
reflect the fundamental challenges through 2012.
Though the growth potential of some non-U.S. banks could be subdued
due to higher reserve requirements, increased property taxes and
strict lending limits as part of the regulatory overhaul, as well
as greater transparency in regulations could strengthen the
fundamentals of many banks. Eventually, these are expected to
create a less risky lane for the overall industry.
Moreover, as inter-country investment walls have fallen, some large
non-U.S. banks are freely expanding beyond their domestic
boundaries through mergers and acquisitions.
In fact, the sector saw a moderate recovery in 2010, but
performance in 2011 was one of the poorest in history. Difficulties
notwithstanding, the malice spread by the financial crisis is
Now, the primary headwind for global banks is regulatory pressure,
which ensued from taxpayers' money and government intervention that
these had to fall back on in order to remain afloat. Moreover,
government efforts to alleviate industry concerns have
significantly raised political hurdles over time.
Politics will continue to influence lending decisions of banks for
as long as these remain financially dependent on governments.
According to banking regulators, if governments withdraw their
support from banks before giving them sufficient time to restore
their financial strength, the sector could collapse again.
The industry has been adopting tougher regulatory measures to
prevent the recurrence of a global financial crisis and restore
public confidence. In June 2011, the oversight body of the Basel
Committee on Banking Supervision proposed new rules that would
force the world's biggest banks to hold extra capital on their
balance sheets as protection and prevention against any financial
This extra capital requirement is an addition to the set of minimum
capital standards, known as Basel III, proposed by regulatory
officials of more than two dozen countries in 2010.
Additionally, the governments in Germany and France require a new
financial transaction tax and risk weighted asset clarification.
This may further lower the financial flexibility of banks in these
With these regulatory measures, the individual capital structures
of banks will remain under constant pressure. The resulting
slowdown at some big banks could be seen as a blessing in disguise
as it would eventually make their balance sheets more
Valuations Look Attractive
Balance sheet repair and credit environment recovery will make the
valuations of some non-U.S. banks attractive. Particularly,
valuations of the mega banks, which could comfortably maintain the
minimum capital norms mandated by the Basel Committee, will
experience the fastest valuation upside. Consequently, we believe
this would be the perfect time for mid- to long-term investors to
consider non-U.S. bank stocks, as their valuations are now
Investors with short-term targets, however, should be very careful
while choosing non-U.S. bank stocks at this point as near-term
fundamentals remain weak. Asset quality lacks the potential to
rebound anytime soon as default rates for individuals and companies
are not expected to materially subside, and revenue growth might
remain weak with faltering loan growth.
The sector is not expected to witness a turnaround at least in
2012. If any improvement occurs, it will vary from country to
country, depending on industry circumstances. We believe that banks
in emerging economies -- Chile, Brazil or India -- look more
attractive, akin to certain regional banks in the U.S., Australia
and Canada that have capital strength, good funding and growth
Woes in the Eurozone
The same, however, cannot be said of European institutions.
European banks are most likely to underperform in the upcoming
quarters primarily due the ongoing debt crisis in the nation and
resulting capital pressure and deleveraging risk.
In early 2010, the debt crisis originating in the Greek economy
shook the stability of the European Union's (
) monetary policies. Starting as a solvency crisis in a single
country, the turmoil spread over to the entire Euro-zone.
The situation did not stabilize to a great extent in 2011 despite
financial assurance from the European Union leaders. Entering 2012,
the European debt crisis has heightened spreading fears of a
financial collapse in the continent.
Though Italy and Spain showed signs of improvement with support
from the government and European Central Bank, conditions in Greece
remain uncertain due to issues related to additional bailout funds.
Moreover, the high inflation will continue to force regulators to
tighten their policies in the Euro-zone, making banks less
Overall, the European Union is trying hard not just to restore
investor confidence but also the health of the continent's banking
system. The issue, however, remains far from being satisfied.
BANCO BRADESCO (
Coming to banks in emerging economies, the asset quality trouble is
obvious. However, these are not plagued by other serious problems
that many of the larger banks face in continental Europe and the
United Kingdom, such as toxic securities and dilution from capital
raising. Moreover, these emerging-market banks generally tend to be
well capitalized, aren't as heavily exposed to property markets,
and have significant and growing sources of non-interest income.
Overall, a key determinant for quick recovery will be the quality
of risk analysis and risk-awareness in decision-making and
incentive policies. So, we believe that accumulating larger capital
buffers over the cycle and reducing pointless complexity in
business will be crucial to banking performance.
Also, the primary attention of policymakers should be on
determining how much longer the fiscal stimulus should continue,
ensuring that it is not withdrawn before a clearer sign of economic
recovery is visible.
Among the non-U.S. banks, we recommend
HDFC Bank Limited
National Australia Bank Limited
National Bank of Canada
Shinhan Financial Group Co Ltd.
Westpac Banking Corporation
) with a Zacks #1 Rank (short-term Strong Buy rating).
Banks with a Zacks #2 Rank (short-term Buy rating) that we also
Banco Bilbao Vizcaya Argentaria
Itau Unibanco Banco Holding SA
ICICI Bank Limited
Royal Bank Of Canada
Toronto Dominion Bank
We also like a few Zacks #3 Rank stocks such as
Banco Macro S.A.
Bank Of Montreal
Bank Nova Scotia
Canadian Imperial Bank of Commerce
KB Financial Group Inc
Lloyds Banking Group Plc
Mitsubishi UFJ Financial Group
Natl Bk Greece
We would suggest avoiding European banks at this point. Also, it is
better to steer clear of banks in Great Britain and Ireland, in
particular those that have participated in government
recapitalization programs and have yet to reimburse the money. In
return for government capital and asset quality protection, these
banks are facing regulatory intervention, like enforcing limits on
dividend payouts and board member nominations.
Currently, banks that we dislike with the Zacks #5 Rank (short-term
Strong Sell rating) include
Credit Suisse Group
Societe Generale Group
We also dislike some stocks in the non-U.S. bank universe with the
Zacks #4 Rank (Sell), namely
Banco De Chile
BBVA Banco Frances S.A.
Banco Santander - Chile
Banco Santander, S.A.
Deutsche Bank AG
HSBC Holdings Plc.
Mizuho Financial Group, Inc.
): Free Stock Analysis Report
BANCO BILBAO VZ (
): Free Stock Analysis Report
BANCO LATINOAME (
): Free Stock Analysis Report
BANCO MACRO-ADR (
): Free Stock Analysis Report
BANK MONTREAL (BMO): Free Stock Analysis Report
BANK OF NOVA SC (BNS): Free Stock Analysis
HDFC BANK LTD (HDB): Free Stock Analysis Report
ICICI BANK LTD (IBN): Free Stock Analysis
BANCO ITAU -ADR (ITUB): Free Stock Analysis
NATL AUS BK LTD (NABZY): Free Stock Analysis
ROYAL BANK CDA (RY): Free Stock Analysis Report
SHINHAN FIN-ADR (SHG): Free Stock Analysis
TORONTO DOM BNK (TD): Free Stock Analysis
WESTPAC BK ADR (WBK): Free Stock Analysis
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