Whilst domestic consolidation may be likely to be under greater consideration by some banks in the coming months, we consider cross-border expansion as still facing significant roadblocks. In February 2017 we published a commentary titled DBRS: Pan-European Banking: Crossing Borders Remains Hard, outlining the main barriers for significant material cross-border mergers to happen. A few years on, we think there has been little progress in the European Banking Union to facilitate cross-border mergers. Key points that are still missing include the creation of a joint deposit guarantee fund or European Deposit Insurance Scheme (EDIS) and a single capital market. This, in our view, is still preventing banks from exploring significant cross- border mergers, writess Morningstar.
Impact on Profitability
With the negative effects of the Coronavirus pandemic (COVID-19) unlikely to improve any time soon, European banks are seeking opportunities to mitigate the impact on profitability. Profitability was already under pressure from the extremely low interest rate environment, high market
competition, and the still high burden of legacy issues such as NPLs. For many banks in Europe, their Return on Equity remains below their cost of capital. In H1 2020, most European banks took significant loan loss provisions to incorporate the more negative economic prospects as a result of the COVID-19 pandemic, As the wider economic effects of the pandemic continue to emerge in Europe, we expect asset quality deterioration to feed
through from the end of 2020 into 2021, particularly after loan moratorium periods come to an end. Against this backdrop, we anticipate an increased need for banks to increase economies of scale, generate cost synergies and create institutions that would be better prepared to face the
challenges ahead. Banking consolidation among European banks seems to be at the top of the agenda for European authorities and regulators as one way to mitigate the expected negative impact from COVID-19 on European banks over the medium-term.m We consider that there is some room for banking consolidation among European banks at a domestic level; however cross-border banking mergers remain difficult due to still high barriers as a
result of there being key elements missing from a full Banking Union, according to Morningstar.
Weakening Profitability
European banks’ profitability weakened significantly in H1 2020 reflecting the increase in banks’ provisions driven by COVID-19 and the economic lockdowns imposed in many countries. We have
looked at a sample of 40 banks in Europe, including banks in France, Germany, Italy, the Netherlands, Spain, Sweden, Norway, Portugal, Denmark, Finland, Ireland, and the United Kingdom (UK). On aggregate, Return on Equity (ROE) significantly deteriorated to 0.3% on average for the
sample of banks in H1 2020 from 6% in 2019 (Exhibit 1 and 2). Around 10 out of the 40 banks reported net losses in H1 2020 compared to 1 bank in H1 2019.
