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European Wholesale Banks
SECTOR REVIEW
Stabilising at a low level
■
With Q1 data now in, the wholesale banking industry looks weak on an
underlying basis, but there are some positive signs. The decline in the
global fee pool may be stabilising; overall fees were down 36% on Q1 08,
but only 8% sequentially. Trading revenues continued to be very weak in
equities, but stabilised in fixed income (where trading tends to follow
issuance). Rates trading revenues were anecdotally very strong, with high
margins being noted in the Goldman Sachs results statement, although
volumes have begun to fall.
■
The good news. The strong trends seen in January and February in debt
underwriting were consolidated—investment grade underwriting was very
strong in March, with both the volume and number of deals at record levels,
while high-yield fees grew strongly after a weak start to the year. Although
equity underwriting data was weak for the quarter as a whole, March saw a
definite improvement (driven by rights issues rather than IPOs). Although we
remain cautious about the outlook for the full year, we see some small
grounds for optimism and some of our concerns expressed last month are
being addressed. The Goldman Sachs Q1 results, where earnings came in
substantially above expectations (US$3.39 per share versus consensus
US$1.64), gave some hope that the overall Q1 reporting season will be
supportive.
■
The bad news. Although there are some signs of stabilisation, the industry’s
revenue line is less than half its 2007 level, while costs have not reduced by
anything like as much. We remain unconvinced that the rally in fixed income
capital markets is sustainable, and (as we set out in last month’s Wholesale
Banks monthly, A False Dawn?, 11 March 2009), we believe that Q1
earnings are wholly unreliable as a guide to the full year. Furthermore, even
in such a strong quarter, Goldman Sachs reported only a 14% return on
equity—given that GS has historically been one of the strongest performers
in the sector, it is hard to see how the industry as a whole can deliver an
RoE in double digits for the year unless it takes on excessive leverage.
■
Valuations are not attractive. Given our concern over RoEs, the fact that
most of the European wholesale sector is now trading at a premium to book
value ought to be a cause for concern. It is by no means obvious that the
industry can cover its cost of capital and current valuations are at the upper
end of what might be justified on bottom-up operational grounds.
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