All is bad at the same time for the American banks



Add in some of the biggest challenges that U.S. banks have overcome in the dozen years since the financial crisis, and you get a sense of how serious the coronavirus outbreak is for them.

Ten years ago, banks persevered despite a recession and widespread defaults. Until 2015, they suffered years of ultra-low interest rates and slow loan growth that put a strain on their profitability. In 2015 and 2018, banks survived the massive sell-offs on the stock market. In 2016, the industry experienced a collapse in energy prices with a few bruises, but no big collapses.

Now banks are facing all of these threats simultaneously. Many of their businesses reflect economic activity, so declining growth and rising unemployment can reduce their profits. Sharp declines in asset prices can undermine their investment banking and trading income as transactions and investors pause.

Banks entered the year better capitalized and less dependent on volatile and short-term funding than they were on the eve of the financial crisis. But their income will likely suffer.

Fears of the impact of the coronavirus have wiped out any “Trump Bump” gains that the KBW Nasdaq Bank index and four of the six largest US banks had recorded since the 2016 presidential election. The KBW index fell further by 10% Thursday as investors bet new travel restrictions and the possibility of further rate cuts from the Federal Reserve will continue to hammer the financial sector.

Here’s a look at how banks could fare in a coronavirus-related downturn:

Decline in loan income

About two-thirds of bank income last year came from interest earned on loans and securities, according to data from the Federal Deposit Insurance Corp. The rates that banks charge on certain broad categories of loans, including commercial and industrial loans and credit card balances, are tied to benchmarks that have fallen in recent weeks. This threatens to reduce the net interest income of banks.

For example, a 1 percentage point reduction in both short and long term interest rates translates into a loss of interest income of $ 6.54 billion in 2020 for

Bank of America Corp.

BAC 0.81%

or around 7% of its annual turnover, according to estimates by Credit Suisse Group AG. Bank of America is an outlier, but the average large U.S. bank will face a 2% impact on its earnings from an interest rate cut of this magnitude, according to Credit Suisse.

Decreased loan growth

Banks could also find it difficult to compensate on loan volumes for what they give up in terms of loan returns. Throughout 2019, businesses and consumers alike demonstrated their willingness to borrow, and loan balances for all U.S. banks at year-end were up 3.6% from their levels. end of 2018, according to FDIC data.

More recently, fears of the coronavirus have weighed on the decisions of companies to invest and expand, especially in sectors such as travel and hospitality and in industries that depend on global supply chains. Commercial and industrial loans rose less than 1.5% every week in February compared to the same period last year, according to data from the Fed. In February 2019, commercial and industrial growth exceeded 10% every week.

Consumers have borrowed from banks at a faster rate than businesses since the start of the year, but have started to slow in recent weeks. Since late January, bank consumer loan growth has peaked at just under 6%, according to data from the Fed.

Consumer crisis

The prospect of dozens of consumers taking time off work and losing their paychecks also does not bode well for many loans banks already have on their books. Defaults and defaults on mortgages, auto loans, credit cards and other forms of consumer borrowing tend to rise and fall with the unemployment rate, and any prolonged period. unemployment likely means borrowers are falling behind in their loan repayments.

Banks have been more cautious in extending credit to consumers since the financial crisis, and the industry-wide loan loss rate is well below its long-term averages and just 0.18 percentage points above its all-time low in 2006, analysts at

Barclays

BCS 0.67%

API. But things can get worse quickly: Banks have reduced the reserves they have built up to cover potential defaults in recent quarters, even as defaults on certain categories of loans have risen, according to FDIC data.

Even if consumers continue to repay their loans, their luxury expenses such as dining out and vacations are likely to decline, reducing the income banks earn on these types of credit and debit card transactions.

The Dow Jones fell more than 2,000 points on Monday and oil saw its worst drop since 1991. Paul Vigna of the WSJ explains how we got to this point and what investors will be looking to move forward. Photo: Timothy A. Clary / AFP via Getty Images

Not short of energy

Many corporate borrowers from banks will also have difficulty repaying their loans in a deteriorating economy, especially those in the energy sector. A sharp drop in oil prices this week means that oil and gas companies will have less money to meet existing debt payments and less valuable asset in the form of energy reserves to borrow from.

If energy prices were to remain at this level, loan losses in banks’ energy portfolios would “rise significantly,” KBW analysts wrote in a note on Monday. The four largest U.S. banks have $ 65.5 billion in exposure to U.S. oil and gas companies, and loans to those companies represent more than 10% of the overall portfolios of several U.S. regional banks, according to KBW.

Markets

Income from Wall Street companies such as investment banking and trading is one of the biggest sources of income for banks, and both are susceptible to the impact of the coronavirus. Since the start of the year, reluctance by business leaders to close deals has led to a 28% drop in global M&A volume from this point in 2019, according to Dealogic data.

Citigroup Inc.

VS 1.32%

expects investment banking fees to decline in the first quarter, CFO Mark Mason said at an investor conference on Wednesday.

SHARE YOUR THOUGHTS

How do you think the coronavirus outbreak will affect your borrowing and spending decisions? Join the conversation below.

Volatile markets and strong swings in stocks, bonds and commodities occupied banks’ trading desks in the first quarter, but the fees from this activity are unlikely to be enough to offset weakness elsewhere. Banks employ fewer traders today than they did during the financial crisis, and with more and more transactions moving to electronic sites, some fees have come down. Mr. Mason said Citigroup’s trading revenue is expected to grow “in the mid single-digit range” in the first quarter, even as trading volumes have grown much more.

Write to Peter Rudegeair at [email protected]

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