03 November 2015

Fitch: Franchise is key to european bank business model success

Many of Europe's G-SIBs are adapting business models to deal with the pressures of more challenging regulation and a prolonged low interest rate environment. Banks with strong customer franchises and effective client segmentation have the best chance of achieving a solid sustainable earnings base.

Heightened regulatory requirements for capital, liquidity, governance and reporting are adding to costs and forcing global systemically important banks (G-SIBs) to become leaner and better focused. In addition, the prolonged low interest rate cycle continues to take its toll on profitability.

New management is driving G-SIBs to adapt their models to address challenges faced in maintaining broad customer, product and geographic coverage. The banks' success will depend on how well these new strategies are executed.

A turning point seems to have been reached where banks have stopped pretending they can succeed at everything. HSBC's recent exit from commercial banking in Brazil and Turkey, where it failed to build up a sizeable market share, is a case in point, as are Credit Suisse's decision to reduce macro sales and trading to a minimum and Deutsche Bank's plans to sell Deutsche Postbank. Unicredit is set to announce its new strategy next week and Standard Chartered's new CEO is leading a strategic review that will result in comprehensive business changes.

Fitch believes that banks that have the strongest franchises - ranking among the top three to five players - in their targeted businesses are more likely to succeed. Fitch’sratings are higher for banks whose strong retail and commercial banking franchise represent a main business model component. This is the case for HSBC, ING, Nordea, Standard Chartered, BNP Paribas, Credit Agricole and Groupe BPCE. The 'company profile' components of these banks' Viability Ratings, which assess standalone strength, fall into the high 'a' to 'aa' range.

Where business models still have a substantial sales and trading/investment banking component, 'company profile' scores are lower. This is the case for Barclays, Credit Suisse, Deutsche Bank, Societe Generale and UBS, which are all in the 'bbb+' to 'a' range.

Performance metrics achievable by the different business lines vary from country to country and this also drives G-SIB business mix. Banks whose home markets are concentrated or benefit from a high appetite for borrowing are, in Fitch’s opinion, generally able to generate high profits from retail and commercial banking. This is the case in the UK and Nordic countries, but not in Germany. In contrast, successful franchises in wealth management (eg UBS) or investment banking (Deutsche Bank) require a global franchise.

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