Covid-19 Impact: Leading Banks in the UK Braced for Losses

Summary

• Full year 2020 impairment charge of NatWest bank is likely to be in the range of £3.5-4.5 billion due to a gloomy UK outlook
• HSBC's PBT plummets 65 per cent amid coronavirus downturn
• The country’s struggling banks point out to a weaker economy

The banking industry has been under the pump since the onslaught of the novel coronavirus across the world. Banks are the engines of the economy as they regulate and control the flow of credit in an economy. As the coronavirus pandemic washed up the shores of the United Kingdom, most of the economic activities came to a screeching halt altogether. The British government imposed lockdown to curtail the spread of the deadly pandemic and asked people to stay indoors. Only the businesses which deal in essentials category including banks remained operational.

UK lenders primarily facilitated the subscription of several government backed support schemes during the unprecedented crisis. Most of the Britain’s largest banks have put aside billions of pounds as a provision to help cover potential loan losses during the first quarter of the unparalleled catastrophe. UK lenders believe that it would be harder for borrowers to repay their debts amid the economic downturn caused by the coronavirus pandemic outbreak. NatWest Group Plc (LON:NWG), formerly Royal Bank of Scotland has provisioned for more than £800 million as it expects a surge in the number of assets which could turn bad given the prevalent conditions in economy due to Covid-19 crisis. According to media reports, HSBC Holdings Plc (LON: HSBA) has put aside more than £8 billion for expected credit loss (ECL) mainly due to the global impact of Covid-19 on the British economy in the near term. However, retail banking and investment distribution performance remained resilient despite difficult economic conditions.

Also read: UK Banks Must Take A Prudent Course Against the Rising Debt Levels Amid the Pandemic

Due to the economic fallout caused by the coronavirus pandemic, NatWest has now made provision of nearly £2.9 billion against potential loans defaults and credit risks. In addition, the leading bank is expected to set aside impairment charges between £3.5 billion-£4.5 billion for the rest of the 2020, in anticipation of the economic catastrophe caused by the deadly virus. During the first half of 2020, the bank reported a £770 million loss. However, NatWest Group has a resilient and diversified business model along with a robust capital position.

Bank of England (BoE) lowered the interest rates in the economy to make sure that the supply of credit remains undisrupted. However, due to lesser interest rates, the interest income of banks has been severely impacted. Due to the contraction of the yield curve, NatWest Group Plc’s net interest margin (NIM) plummeted by 22 basis points to 1.67 per cent in comparison to the first quarter of 2020. The bank aims to reduce costs by £250 million in 2020.

HSBC Holdings on the other hand, reported a profit before tax of $4.3 billion, which was down by 65 per cent in the first half of 2020 in comparison to the same period in the previous year (H1 2019). The dip in profits could be attributed to lesser revenue, higher expected credit losses, and other credit impairment charges. Due to lesser interest rates prevalent in the economy, the Group’s reported revenue was down by 9 per cent to $26.7 billion. Due to reduction in interest rates by BoE, the bank’s net interest margin was down by 18 basis points to 1.43 per cent in the first half of 2020 as compared to the same period an year back in 2019.

Due to the impact of Covid-19 pandemic and the gloomy economic outlook going forward, HSBC’s expected credit losses surged by $5.7 billion to $6.9 billion. The revenue streams of the bank are under pressure due to lesser interest rates and a reduced economic activity due to slower reopening of the economy. This is expected to continue in the near-term given the current high degree of uncertainty. In addition, HSBC has been facing political tensions due to the ongoing US-China row.

According to UK’s banking industry body, Financial Conduct Authority (FCA), around £38 billion was disbursed as loans under the government backed schemes to help more than 900 thousand businesses stay afloat during to the Covid-19 induced lockdown and their catastrophic impact. This is only a third of the debt which could lead to increased NPA’s (non-performing assets) for the banking sector. The remaining two-thirds of debt (which accounts to nearly £107 billion) lies with the UK’s small and medium-sized businesses which could turn bad and lead to degradation of asset quality of the banks by March 2021, as a fallout of slower reopening of the British economy. In addition, the credit moratoriums and repayment holidays are already burning a hole in the pocket of the financial institutions.

Also read: UK Banks Agree to Suspend Dividend and Bonuses Worth £8 Billion

In fact, the country’s banking sector should chalk out a proper plan to sustain its asset quality. This could be done by segregating the sectors which are hard-hit than the others and then rolling out sector-specific guidelines to their respective debt arrear teams. The UK’s small and medium-sized businesses are expected to start repaying of government-backed loans in 2021. The banking sector fears that these businesses could struggle to service their debt in case of prolonged crisis.

Banking industry is one of the oldest trades and has witnessed several economic collapses and downturns. The banks must find a delicate balance between treating the battered businesses fairly and instilling faith in them. At the same time, the country’s banking industry should also ensure that nothing should push back UK businesses on their path to recovery. In addition, the job sector has witnessed a lot of redundancies in recent times. The business model of UK based banks is consumer-driven. Therefore, job losses could indirectly impact the bottom line of the banking sector across the nation. The banking industry is dependent on a healthy employment scenario for a growth in its mortgages, credit cards, unsecured lending, and many other banking products. Therefore, the British government must provide an environment that is conducive to job creation and encouraging economic activities.