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Europe’s banks fear investor flight after dividend bans

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Bank bosses bragged at the start of the coronavirus pandemic that, unlike during the financial crisis, their institutions would help save rather than topple the global economy. But for many of their shareholders, 2020 was the year that Europe’s lenders verged on uninvestable.

Despite a modest recent rally, European bank share prices are down about a quarter this year. Industry executives fear that investor flight from the sector means lenders will find it harder to raise capital in future times of stress.

Europe’s banks have had to set aside more than €100bn of additional capital this year in preparation for souring loans — a 150 per cent increase on a year earlier. But the biggest hit to their reputation among shareholders was their cancellation of close to €40bn of dividend payments following pressure from regulators.

“That has clearly changed the investment case for European banks,” said Jaime Ramos-Martin, global equities manager at UK fund manager Aviva Investors, which controls £346bn of assets.

In March, the European Central Bank ordered the 113 lenders under its supervision to suspend €30bn of shareholder payouts within days of the coronavirus pandemic spreading to Europe.

Weeks later, the UK’s Prudential Regulation Authority, an arm of the Bank of England, called on British lenders to follow suit. After initially resisting the pressure, the UK’s five largest banks conceded and cancelled dividends worth £7.5bn.

Equity investors have traditionally viewed banks as solid, if low growth businesses that can be relied upon to pay steady income. “But dividend bans means that way of thinking does not really work any more,” said Mr Ramos-Martin.

Bank bosses have been caught in the middle of a tense showdown. On the one side, their regulators have prioritised building up capital buffers in expectation of a surge in defaults. On the other, their investors have demanded a resumption of payouts.

“All it has done is undermine investor confidence and is a major breach of trust with our shareholders, one they will not quickly forget,” said the chief executive of a large UK bank. “It will make future fundraising more expensive. Also, it was pointless, the industry didn’t need it, we had and have strong capital.”

Robert Swaak, chief executive of ABN Amro, the Dutch bank that is majority owned by its government, added that the dividend ban has been a key discussion point with investors this year. “Shareholders are very vocal about returns,” he said. “What we’re feeling is what any bank is feeling.” ABN’s shares are down about 50 per cent this year.

The dividend bans drew criticism from some shareholders, notably those of HSBC. Although the lender is listed in London, a third of its shares are owned by Hong Kong-based retail investors who rely on its dividend for income.

Thousands of individuals threatened to sue HSBC over its decision to cut dividends for the first time in nearly 75 years. The issue reignited a debate about whether the bank should relocate its headquarters to Asia, where it makes the most of its revenue.

Santander Bank’s executive chair Ana Botín has criticised the ECB’s stance on dividends © Pierre-Philippe Marcou/AFP/Getty Images

“Regulators are over focused on capital strength and under focused on profitability and ability to recapitalise in a crisis,” said Julian Wellesley, senior global equities analyst at Loomis Sayles, a US investment group with $328bn of assets. “If you make banks incredibly unattractive from a capital perspective you can hurt them in the long term.”

Throughout the year, bank bosses have lobbied regulators hard to allow them to restart paying dividends.

Speaking at an online event in September, the chairs of Société Générale and Santander, Lorenzo Bini Smaghi and Ana Botín, each criticised the ECB’s stance. Mr Bini Smaghi said the policy was making banks “uninvestable”, adding: “The prohibition to distribute dividends . . . is a measure which is scaring investors from entering the banking sector.”

Ms Botín argued that Europe’s regulators were giving her US competitors an advantage.

Debt investors have also pressed for a resumption of dividends. “If a bank runs into trouble, it needs to access equity capital markets to restore its buffers,” said Marc Stacey, a senior portfolio manager at fixed income specialist BlueBay Asset Management. “Low price-to-book values and equity stress absolutely matters to bondholders.”

After testing banks’ capital positions, the PRA and ECB eventually yielded to industry calls. This month they announced they would allow dividend payments next year, but with heavy restrictions in place.

British banks will be able to pay out dividends up to the higher of 25 per cent of their cumulative profits over the previous two years and 0.2 per cent of their risk-weighted assets. Eurozone banks, meanwhile, were given more stringent limits of 15 per cent of profits over the previous two years and no higher than 0.2 per cent of their common equity tier one ratio.

UBS analysts estimated that dividend yields would fall across eurozone banks from an average of 3.5 per cent to 1.5 per cent due to the limits. More profitable banks with stronger balance sheets — such as Nordic lenders, Intesa Sanpaolo of Italy and ING of the Netherlands — will be hit hardest.

British banks would have much more leeway, with potential dividend yields ranging from 1.6 per cent at Lloyds and 3.2 per cent at Barclays.

Despite the binding conditions, the lifting of the dividend bans has given bank executives reason for optimism that they can start to put an arduous 2020 behind them.

“It’s not been an easy year, needless to say, but banks in Europe — and certainly Société Générale — are in much better shape than people think,” said Frédéric Oudéa, chief executive of the French lender, whose share price is down about 45 per cent this year.

“Hopefully, quarter after quarter, step by step, things will improve.”

Additional reporting by Stephen Morris in London and David Keohane in Paris



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BNP under fire from Europe’s top wine exporter over lossmaking forex trades

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BNP Paribas is facing allegations that its traders mis-sold billions of euros of lossmaking foreign exchange products to Europe’s largest wine exporter, the latest accusations in a widening controversy that has also enveloped Goldman Sachs and Deutsche Bank.

J. García Carrión, founded in Jumilla in south-east Spain in 1890, is in dispute with the French lender over currency transactions with a cumulative notional amount of tens of billions of euros. It claims the lossmaking trades were inappropriately made with one of its former senior managers between 2015 and 2020, according to people familiar with the matter.

BNP is one of several banks facing complaints from corporate clients in Spain over the alleged mis-selling of foreign exchange derivatives, which pushed some companies into financial difficulties.

Deutsche Bank has launched an internal investigation of the alleged mis-selling that this week led to the departure of two senior executives, Louise Kitchen and Jonathan Tinker.

An internal investigation at JGC found that BNP conducted more than 8,400 foreign exchange transactions with the company over the five-year period, equivalent to about six each working day.

That level of activity was far higher than what the company would have needed for normal hedging of exchange-rate risk on international wine exports, the people said, adding that the Spanish company had shared the results of its internal probe with BNP.

While the vast majority of the lossmaking trades related to euro-dollar swaps that moved against the bank, some were in currency pairs where JGC has little or no operations, such as the euro-Swedish krona.

As a direct result, the €850m-revenue company made about €75m of cash losses in those five years, while BNP could have made more than €100m of revenue from transactions, the people added. Many of the deals were made through trading desks in London.

Executives have demanded compensation for at least some of the losses, arguing that BNP’s traders or compliance department should have spotted and reported the disproportionately high level of transactions and profits from a single client, according to multiple people with knowledge of events.

JGC says the deals were designed as bets on currency markets, rather than for hedging, and is considering a lawsuit to try to recover some of the money, one of the people said.

“BNP Paribas complies very strictly with all regulatory obligations relating to the sale of derivatives and foreign exchange instruments,” the bank said in a statement. “We do not comment on client relationships.”

JGC declined to comment.

Separately, the Spanish wine producer is suing Goldman Sachs in London’s High Court for a partial refund of $6.2m of losses caused by exotic currency derivatives. Goldman has maintained the products were not overly complex for a multinational company with hedging needs and were entered into with full disclosure of the risks.

In Madrid, the wine company has also brought a case against a former senior executive who was responsible for signing off the lossmaking deals. JGC alleges this person conducted the deals in secret and covered them up internally by falsifying documents and misleading auditors.

In the London lawsuit, JGC alleges its executive was acting “with the encouragement and/or pursuant to the recommendations” of Goldman staff “for the purposes of speculation rather than investment or hedging”.

Deutsche Bank has been investigating for months whether its traders in London and Madrid sidestepped EU rules and convinced hundreds of Spanish companies to buy sophisticated foreign exchange derivatives they did not need or understand.

The Financial Times has reported that the German bank has settled many complaints brought against it in private and avoided going to court.

People familiar with the matter told the FT that the departures of Kitchen and Tinker were linked to the probe into the alleged mis-selling, which appears to have occurred in units that at the time were overseen by the two.

The bank declined to comment. Kitchen and Tinker did not respond to requests for comment.



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Will the Fed dare to mention tapering?

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Will the Fed dare to mention tapering?

When Federal Reserve officials convene on Tuesday for their latest two-day monetary policy meeting, questions over whether the central bank should start talking about tapering its $120bn monthly bond-buying programme will lead the agenda.

Since the US central bank last met in late April, several senior Fed policymakers, including vice-chair Richard Clarida, have cracked the door more widely open for a discussion about eventually winding down the pace of those purchases, which include US Treasuries and agency mortgage-backed securities.

The recent comments align with those referenced in the latest Fed meeting minutes, which indicated that “a number of participants” believed it might be “appropriate at some point in upcoming meetings” to begin thinking about those plans if progress continued towards the central bank’s goals of a more inclusive recovery from the pandemic.

Recent economic data support this timeline. Consumer prices in the US are rising fast, with 5 per cent year-on-year gains in May revealed in last Thursday’s CPI report — the steepest increase in nearly 13 years. Additionally, last month’s jobs numbers, while weaker than expected, still showed signs of an improving labour market.

Most investors still expect the Fed to only begin tapering in early 2022, with guidance on the exact approach delivered in more detail around September this year at the latest. Goldman Sachs predicts a more formal announcement will come in December, with interest rate increases not pencilled in until early 2024.

“The Fed is signalling they are going to start talking about it,” said Alicia Levine, chief strategist at BNY Mellon Investment Management. “They are softening up the market to expect [something] this summer.” Colby Smith

Are inflation risks rising for the UK?

Consumer prices in the UK have risen at an annual rate of less than 1 per cent for most of the pandemic due to low demand for goods and services and weak wage pressure.

However, with the recent easing of Covid-19 restrictions releasing pent-up consumer demand, the nation’s headline inflation figure doubled in April from the previous month.

When core consumer price inflation data for May are released on Wednesday, some analysts expect an even bigger leap, predicting that annual CPI growth will jump to the Bank of England’s target of 2 per cent.

Robert Wood, chief UK economist at the Bank of America, said such an inflation surge would add to the BoE’s hawkishness. He also forecast further rises later this year as commodity price increases continued to elevate energy and food costs.

Additional price pressure would come from supply chain disruptions and higher transport costs that push up input costs.

“The upside risks to our inflation forecast are growing from all angles,” said Paul Dales, chief UK economist at Capital Economics, who expected consumer price levels to peak at 2.6 per cent in November.

“The reopening may result in prices in pubs and restaurants climbing quicker than we have assumed,” Dales added, while labour shortages in some sectors, such as construction and hospitality, were also starting to push up wages and prices.

However, both analysts expect the increased price strain to be temporary.

“Once higher commodity prices have fed through to consumer prices, inflation will fall back again,” said Wood, forecasting that UK inflation would drop back below the BoE’s target in late 2022. Valentina Romei

Line chart of Annual % change on consumer price index showing UK consumer price inflation is set to rise above target

Will the BoJ keep its rates policy on hold?

Japan’s economic recovery has diverged from Europe and the US this year as it struggles with its Covid vaccination campaign and big cities such as Tokyo continue to be partially locked down under states of emergency due to the pandemic.

Although the nation’s wholesale prices rose at their fastest annual pace in 13 years last Thursday on surging commodity costs, Japan has otherwise faced a lack of price pressures compared with the US.

That means that when the Bank of Japan concludes its two-day meeting on Friday, analysts believe it will not alter monetary policy.

“I don’t expect any change in policy,” said Harumi Taguchi, principal economist at IHS Markit in Tokyo. “They increased flexibility in March and I expect they will continue to watch that.”

After a policy review, Japan’s central bank in March scrapped its pledge to buy an average of ¥6tn ($54.8bn) a year in equities, and the pace of its exchange traded fund purchases dropped sharply in April and May. The moves signalled a shift away from aggressive monetary stimulus in favour of what the BoJ termed a more “sustainable” policy.

“Japan is one of the few countries whose property prices have not risen, and since rent is a major component of the consumer price index, it is not likely to see much inflation ahead,” said John Vail, chief global strategist at Nikko Asset Management in Tokyo.

“Interest rates can remain extremely low, which in turn keeps the yen on a weak trend,” Vail added. Robin Harding

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Dollar traders chill after the tantrum

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It was a classic case of buy the rumour, sell the fact.

In February this year, investors and analysts were concerned that the US economy was beginning to hot up, sparking fears that inflation would pick up and force the Federal Reserve to quicken its policy tightening. This, in turn, led to a surge in US government yields, which propelled the dollar to the year’s high against its peers a month later.

Fast-forward to the end of the first half of the year and inflation in the US is running at its fastest pace since the global financial crisis, but the dollar has weakened for two straight months after appreciating in the first quarter.

Most of the shift is down to US central bankers who rushed to reassure investors that they would keep conditions extremely accommodating, soothing the flare-up in Treasury yields and the dollar’s exchange rate.

As a result, analysts are pretty confident that Fed chair Jay Powell and his board will “look through” the rise in prices at the central bank’s rate-setting meeting next week, keeping the dollar on its current weakening path.

“The combination of steady Fed expectations and a broadening global economic recovery should allow recent dollar weakness [to] continue,” said Zach Pandl, co-head of foreign exchange strategy at Goldman Sachs, in a research note. He expected the euro to benefit the most against the US currency.

Still, some strategists cannot help but wonder whether they should stick to selling the fact, or if it is time to start buying the rumour — and the dollar — again. Despite inflation powering to above 5 per cent year on year, yields on 10-year Treasuries fell to their lowest in three months, in a counterintuitive reaction fuelled by the anticipation that policymakers will shrug off the building heat in the economy.

“Getting US inflation right may be the most important market call for the rest of the year,” said Athanasios Vamvakidis, global head of currency strategy at Bank of America in London.

A decision from the US central bank to keep its policy unchanged would allow the dollar to continue with its weakening path, but maybe not as much as traders anticipated at the beginning of 2021. Vamvakidis notes that currency markets are quietly pricing in less dollar weakness than at the start of the year, with the consensus view now calling for the euro to trade at around current levels $1.21 by the end of December rather than at $1.25.

“For now, high US inflation and a still dovish Fed keep real US rates highly negative and this supports the euro. The question is for how long this is sustainable if US inflation proves persistent,” he said, adding that the bank expected the euro to finish the year at $1.15.

Line chart of Dollar index (DXY) showing The dollar has weakened after first-quarter gains

There are signs that investors might be getting too relaxed. Options markets display little nervousness about the Fed meeting, and Mark McCormick, global head of currency strategy at TD Securities said negative bets on the dollar had begun to build up heavily again in recent weeks.

This adds to the risk of a sharp snapback in the currency’s exchange rate if the Fed does hint at tapering its asset purchases on Wednesday or before analysts expect.

“Don’t expect much more dollar weakness into the summer,” said McCormick.

There are also some offbeat signs that there is a risk of traders betting too heavily on the Fed’s commitment to keeping liquidity ample. Analysts at Standard Chartered noted that Treasury secretary Janet Yellen, a former Fed chair, mentioned the potential benefits of a higher interest rate environment twice in recent weeks.

John Davies, a US rates strategist at Standard Chartered, said that it was most likely that the Treasury chief was defending the Biden administration’s fiscal plans rather than criticising Fed policy, but it was highly unusual.

“It is still striking when the Treasurer of a public or private entity argues for higher borrowing costs,” said Davies.

Investors now expect the US central bank to start cutting its asset purchase amounts in the first quarter of next year, with an announcement pencilled in for potentially September, when the Fed meets for its annual symposium at Jackson Hole, according to Oliver Brennan, head of research at TS Lombard.

But while an earlier than expected announcement would cause some ructions, the real risk is that investors will have to start anticipating the timing of rate increases in the US, which could come sooner and harder than they anticipated.

“The taper sets the clock ticking for the first rate hike and real rates rise [and] big changes in Fed policy are rarely smooth-sailing,” said Brennan.

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Robert Armstrong dissects the most important market trends and discusses how Wall Street’s best minds respond to them. Sign up here to get the newsletter sent straight to your inbox every weekday



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