Normalcy Returns to European Banks

The article below is from our BRIEFINGS newsletter of 15 July 2021

During last month’s Goldman Sachs European Financials Conference, executives from major European banking, insurance, real estate and diversified financials companies joined policymakers, regulators and investors to discuss the hot topics of the day. Jernej Omahen, head of the European Financial Institutions Group for Goldman Sachs Research, sat down with us to share his main takeaways from the virtual event.

Jernej, what was the overall sentiment about the region’s economic recovery and the impact on banks’ operations?

Jernej Omahen: In the context of the past 12 months, there has certainly been a sense of optimism about the return to some form of normalcy, a view expressed especially by management teams. Policymakers also expressed cautious optimism. And it’s straightforward to see why: We’ve had an improvement in capital positions, strong credit quality and a step-up change in profitability, all of which seem sustainable in 2021.

Many in the community have their eye on September 30 of this year—the date when the European Central Bank might repeal its restriction on banks’ ability to pay cash dividends to shareholders and partake in buybacks. What do executives and investors think is in store for dividends?

Jernej Omahen: There is a broad expectation that dividend restrictions will be lifted, and we’ll see a return to a normal supervisory cycle. Bank executives spoke positively about the likelihood of dividend payouts resuming and see upside potential for payout ratios. Buybacks were a frequent discussion point, even with banks that have not used the instrument in the past. Investors, on the other hand, wanted to know whether the ECB is likely to ban dividends again when the next crisis strikes. While policymakers insisted that the restriction was a one-off measure, it’s clear that the risk investors associate with European banks’ dividends has risen, and it will take a long time for them to perceive bank dividends to be as predictable as those in other major sectors.  

What’s next for regulation?

Jernej Omahen: It seems to us that the process of “classic” regulatory tightening is over. Banks have emerged resilient from the current crisis, which in turn sharply diminishes the case for incremental tightening. The imminent implementation of Basel 3—the third installment of the Basel Accords developed to address the regulatory deficiencies revealed by the financial crisis—is broadly seen as the last large piece of the market regulation puzzle and should not result in a material increase in capital requirements. That said, many expect the next regulatory wave to be ESG-related. It is still unclear what shape this “Green Basel” will take, but we expect it to continue to be a focus in the future.

What’s the outlook for M&A activity in the sector?

Jernej Omahen: The M&A debate focused primarily on domestic opportunities and seemed limited to the more fragmented south European markets. Bank management teams remain dismissive about cross-border M&A, even as policymakers continue to advocate the benefits of cross-border banking across the Eurozone. Large banks that boast “national champion” positions are focused on getting through the crisis and growing  their market share. Demonstrating the ability to return capital to shareholders and re-establishing themselves as reliable income investments takes precedence over M&A.