How Is The Lending Sector Performing During Record-Low Interest Rates?

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After nearly quarterly losses of $13 billion in 2020, Banco Santander SA (NYSE:SAN) reported net income of $2.5 billion in Q2 2021, beating analysts’ forecast. HSBC’s profit more than doubled hitting $10.8 billion pre-tax.

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Amid the low-interest rates across lenders’ biggest markets, how is the sector performing?

Strong Recovery

It is a treacherous time for lenders around the world, as the Covid crisis has prompted regulators to lower interest rates to keep economies afloat.

Bank of America Corp (NYSE:BAC) saw its net interest income reduced by 6% in 2021 Q2, while its fixed-income trading operations reported revenue of $1.97 billion, “well below the $2.71 billion estimate of analysts,” according to CNBC.

Still, along with global monsters like Banco Santander and HSBC, top U.S. banks reported sizzling earnings during the same period altogether.

The combined net profit of Wells Fargo & Co (NYSE: WFC), JPMorgan Chase & Co (NYSE: JPM), Citigroup Inc (NYSE: C), and –yes– Bank of America Corp (NYSE: BAC) topped $33 billion.

Further, according to Coinspeaker, there was a strong recovery in consumer lending. JPMorgan’s combined spending on debit and credit cards went up 22%, while “the spending on the Citi-branded credit cards shot by a massive 40% from the last year.”

To seize the low interest rates and rearrange their personal finances, consumers are applying to debt consolidation loans, especially those that do not require upfront payments.

However, for all the talk of lenders’ positive comeback and the increase in loan demand altogether, the ultra-low interest rate environment can be felt in the industry and has prompted banks to get creative.

The Impact Of Record-Low Interest Rates

Record-low interest rates are not particularly successful in stimulating bank lending growth.

“One potential reason could be the negative impact of very low rates on the profitability of banks’ lending business,” says expert Claudio Borio.

“There is a non-linear connection between interest rate levels and the slope of the yield curve, and banks’ net interest income and return on assets.”

In this light, low interest rates reduce lending profitability by undermining the net interest margin, potentially increasing profitability of more investment banking-type revenue streams, such as “underwriting of securities issuance or trading, or mergers and acquisitions.”

“As lower profitability makes it harder to accumulate capital, the very basis for additional lending is eroded.” Banks, hence, would naturally allocate capital to activities whose margins are more profitable.

Borio identified this trend between 1995 and 2014 in at least 80% of the domestic banking systems in the G10 countries, with the addition of Austria, Australia, and Spain.

Looking Elsewhere

Banco Santander CEO Ana Botin has her own predictions in this complex scenario. According to Bloomberg, she anticipates “high levels of economic expansion in Spain and around the world, while piloting the lender’s growth in areas such as U.S. fixed-income trading.”

“With capital levels above its target, the bank is setting aside as much as half of underlying profit to distribute to shareholders after the European Central Bank said it will remove the restrictions on payouts that were put in place during the health crisis.”

Botin said that the bank is on track to outperform its profitability target in 2021 and will continue to focus on a shareholder remuneration payout of underlying profit between 40% and 50%.

Amid the record-low interest rates in Europe, Santander is finding its way to recovery by reallocating interests in other parts of the world.

The bank is expanding in other markets and business fronts, looking for better revenue and higher growth, namely with the $600 million acquisition of independent U.S. broker dealer Amherst Pierpont Securities in July.

HSBC's Strategy

The biggest bank in Europe has been applying a similar business approach.

HSBC has grown its wealth business while outlining a $6 billion investment plan in Asia “to try and sniff out higher returns, moving capital investment and staff from Europe and the U.S.”

As informed by BBC and amid the record-low interest rates in Europe, the lender said it would launch into wealth management and commercial banking pursuing “double-digit growth” in markets such as Singapore, China, and Hong Kong.

“Although recovery in the region has so far been good news for HSBC’s profits, it has faced reputational headwinds over accusations it was too close to Chinese authorities which have cracked down on pro-democracy protestors in Hong Kong.”

The strategic adjustment has taken place after HSBC reported a 34% plunge in profit by 2020, stemming from the COVID-19’s impact on global trade. HSBC’s pre-tax profit dropped from $13.35 to $8.8 billion by 31 December 2019.

Reuters reports that, given the brighter outlook globally as economies recover faster than expected from the pandemic, HSBC “expects credit losses to be below its medium-term forecast of 0.3%-0.4% of its loans.”

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