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Special banking report - 10 years on

16 August 2017

No news or research item is a personal recommendation to deal. All investments can fall as well as rise in value so you could get back less than you invest.

When Standard Chartered CEO Bill Winters described his bank as “stronger, leaner and becoming more efficient” earlier this month, he could have been talking about any one of the five large UK banks (with varying degrees of accuracy).

Although some legacy issues remain, restructurings are more or less complete, capital positions look vastly improved and dividends are returning. Ten years after the start of the financial crisis, ambitions to become global universal banks, offering retail, wholesale and investment banking worldwide, have largely gone. Instead the UK’s leading banks have slimmed down to focus on a few core areas.

UK - retail and commercial banking

Retail and SME banking may not be flashy, but there are a number of reasons why it’s an attractive business to be in.

Revenues are steady, and considerably more reliable than in the volatile world of investment banking. The increasing digitisation of banking, and declining PPI charges, is shrinking costs for the bigger players. These factors, combined with historically low levels of default, are helping boost profits at a time when low interest rates mean banking net interest margins are struggling.

As the owners of some of the UK’s largest high street banks (and having had their fingers burned in risker markets), Lloyds, Barclays and RBS, have been paying a lot more attention to their retail customers since the financial crisis.

That’s seen the UK’s share of revenues at Barclays, and particularly RBS, steadily rise, as fringe businesses are sold and legacy assets are wound down.

Share of group revenues generated in the UK

Source: Bloomberg, 15/08/17

Lloyds is by far the most UK-focused of the five big banks, with just a tiny fraction of revenues generated outside the UK. High Street, SME and consumer banking is the bank’s bread and butter, and its focus on cost control and digital means it’s currently got the lowest cost: income ratio of any major UK bank.

Having completed its post-financial crisis clean up some time ago, Lloyds has been paying a steadily rising dividend since 2015, and currently offers a prospective yield of 7% for 2018. However, the focus on the UK, and particularly on consumer finance following the £1.9bn acquisition of the MBNA credit card business, does mean the bank is exposed to weakness in the domestic economy.

Lloyds, and the other banks with significant exposure to individual economies, will rise and fall with the economic tide.

Lloyds share price, charts and research

RBS share price, charts and research

Investment banking

Investment Banking has fallen out of favour among UK banks, and while RBS and Standard Chartered do maintain some exposure, it’s Barclays and HSBC who are the main flagbearers.

HSBC’s business is unusual, focusing as it does on Asia, and we will look at it in more detail in the next section. That leaves Barclays as the only British bank still looking for a position at the transatlantic investment banking table.

Investment Banking Markets revenue as a percentage of group total

Source: Bloomberg, 15/08/17

Unfortunately, Barclays’ recent performance in investment banking has been somewhat lacklustre, with the Markets business seeing revenues fall 5% in the first half, having failed to keep up with substantial growth at rivals in the US and Europe. A UK/US investment bank remains a key part of the strategy, and Barclays needs to be grabbing a slice of the pie when times are good.

However, while the returns from investment banking can be lucrative, it’s also a risky business. Not only can revenues swing wildly, but it’s a business which has historically resulted in some very substantial litigation expenses. RBS may be small in investment banking terms these days, but it is still paying for past misdemeanours, with a multi-billion dollar fine expected from the Department of Justice in the coming months.

If Barclays can get the investment bank firing on all cylinders it will make for a fairly unusual investment proposition. Investors will hope its sizeable commercial and retail business in the UK underpins steady dividend growth, with a current prospective yield of 3.5%. Meanwhile, the global investment bank provides exposure to economic growth outside the UK.

Barclays share price, charts and research


It might seem odd to suggest Barclays as an investment for international exposure when the UK banking sector also contains Standard Chartered and HSBC. These both offer investors bags of international exposure, but it’s heavily focused towards emerging markets in Asia.

Asian markets account for 70% of operating income at Standard Chartered, centred in Hong Kong, Singapore and India, while HSBC generates 58% of profit in greater China alone. The commodity downturn from mid-2014, and accompanying emerging market slump, hit both banks hard.

With impairments rising and loan growth stagnant, net income at both banks began to drain away. The turnaround has been a struggle, but a dramatic narrowing of focus, combined with cost cutting and a rebuilding of capital, is starting to reap rewards.

Net income ($bn)

Source: Bloomberg, 15/08/17

Standard Chartered has now scrapped much of its investment banking operation in favour of an increased focus on private banking and retail (an approach the CEOs of the more UK-focused Lloyds and RBS will recognise).

Given the volatility of the markets in which Standard Chartered operates, the added stability is certainly welcome, but the transformation has been painful. The downturn, combined with regulatory fines for breaching sanctions on Iran, forced the group to scrap its dividend and launch a rights issue.

The important question for Standard Chartered investors, is when will the dividend return? Analysts are forecasting a small one this year.

By comparison, HSBC has so far proven able to pay a dividend throughout the downturn, despite significant restructuring. Proceeds from its disposals have helped to fund $5.5bn of share buybacks in the last 12 months.

The bank operates a broad mix of businesses, ranging from retail and wealth management to global investment banking, but the focus is firmly on China. Trade financing has always been big business for HSBC, and the bank is growing its market share. The recent launch of the first joint-venture securities company in mainland China to be majority-owned by a foreign bank is a major step forward but also an indication that, as time goes on, HSBC and China's fortunes will be increasingly tied together.

The challenge is for the bank to prove that a return to its Hong Kong and Shanghai roots can pay off. If it does, then access to rapidly growing markets could support dividend growth from an already high base, the current prospective yield is 5.3%.

Standard Chartered share price, charts and research

HSBC share price, charts and research

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Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Past performance is not a guide to the future. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information.

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Investment notes
No news or research item is a personal recommendation to deal. All investments can fall as well as rise in value so you could get back less than you invest.
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