The Covid crisis, originated outside the economic-financial sphere, is impacting in a heterogeneous way in the productive sectors, being those that are suffering the most those most related to the behavior of consumption. The banking sector has not been an exception and, once again, has registered stock market falls derived from the impacts of the crisis, as well as the measures that have been taken to counteract its effects. Among these measures, the ones that most affect the bank’s stock market valuation are the temporary extension of low or negative interest rates, a consequence of the measures taken by the ECB, the almost perennial low profitability for more than five years, and the impacts that the foreseeable growth in non-performing loans will have throughout 2021 and may extend to 2022.
And it is that in the evolution of the prices of the banking sector since the outbreak of the latent pandemic crisis, stages of large losses have alternated with periods of significant increases. In the first moment, world bank prices fell significantly on the stock markets, registering losses of greater depth than in the average of the sectors; in a second moment, since June, the opposite effect was recorded, with higher rises in banking than the rest of the sectors; finally, in recent weeks, the market has again bet on cyclical sectors in general and the banking sector in particular.
That is why the crisis associated with the pandemic has not left the listing of the world’s most important banking systems indifferent: the European and the American. Specifically, in terms of the ratio that is commonly used to measure bank stock market valuation, the Price to Book Value or Price to Book Value (PBV), which measures how much the market estimates that an entity is worth with respect to its book value, so that the higher this ratio, the higher its valuation, there has been a substantial decrease throughout the world (on average, a drop of around 30 percentage points in the main European and American banks).
This fact has relevant implications for banking on the other side of the pond. Until 2019, the US banking sector traded above its book value and was profitable enough to offset the risk assumed by its shareholders. After the outbreak of the health crisis, this trend has been reversed, and with it, there is the realization that there is no longer any Western system that trades above its book value.
Furthermore, European banks, which had already traded below their book value since the previous crisis, have once again suffered stock market falls that further depressed their valuation ratios, above all due to the prolongation of monetary incentive measures and the erosion of its profitability, in a clear signaling by the market of the obsolescence of the banking production model.
In short, although all banks have registered significant falls in the markets, the scale of the challenge is not the same for all banks. Large American banking, for the first time in its history, is no longer being able to generate the profitability they demand for its shareholders; while for the European banks a scenario is drawn in which a prolongation in time of these depressed valuation ratios is envisaged. And it is in this context when the mystery of the US elections is finally closed and the pharmaceutical companies announce encouraging results in an effective vaccine against Covid, events that led to large stock market rises, starring precisely, among others, by the banking sector . Eventually, the increasingly intense process of mergers in the banking sector has further boosted banks’ increases in the stock market. Does this represent a trend towards a level of stock price above book value?
Fernando Rojas and Diego Aires are consultants in the Financial Services area of AFI