Erste Group likely to hit 2021 targets as markets rebound – analysts

Erste Group Bank AG is well positioned to achieve its upgraded 2021 financial targets as the economies of its core markets gradually recover from a coronavirus-prompted downturn, analysts said.

The Austrian bank's first-half net result attributable to owners of the parent jumped 212% year over year to €918.0 million, an improvement that led it to upgrade its goals for the full year. Erste is now targeting a return on tangible equity in the double-digit region, growth in both net interest income and net fee and commission income, and an overall 2021 net result that is significantly higher than in the previous year. Risk costs — a key factor affecting the bank's profitability now more than ever — are also expected to drop significantly.

CEO Bernhard Spalt said that the double-digit ROTE guidance should mean somewhere around 11%. The bank's ROTE in 2020 fell to 5.1% from 11.2% in 2019. Erste was forced to suspend its 2020 targets at the onset of the pandemic last year.

Analysts are agreed that Erste should be able to meet most of its new targets. Barclays has modeled a 10.2% ROTE, analyst Krishnendra Dubey told S&P Global Market Intelligence, while Erste's solid operational profitability, track record of cost discipline and availability of provisions will support its pursuit of these goals, according to Andrea Wehmeier, vice president and senior analyst at Moody's.

"I believe [a] double-digit return on equity is quite feasible based on first-half results so far, where risk costs amounted to only 10 bps ... as credit quality came in better than expected, and fees and lending also came in stronger than anticipated," said Hai Thanh Le Phuong, head of research at Concorde Securities.

"The bank ... in the last couple of years was rather conservative on guidance, thus we see the current targets [as] achievable," Le Phuong added.

This upbeat outlook is anchored primarily on an expected economic rebound in central and Eastern Europe, a core market for Erste. It expects GDP in the region to grow by between 3% and 7% this year. With a macro recovery in the region "in full swing," Spalt said during a July 30 earnings presentation that "what could have been achieved so far has been achieved, and there's a very, very strong recovery taking place."

The region's economic development will be key in achieving the targets, Wehmeier said, adding that "a sustainable recovery will support loan demand, limit cost of risk and [support] somewhat rising rates in CEE countries."

Net interest income

The bank over the past couple of years has grown net interest income, or NII, which amounted to €4.77 billion in 2020. It also managed to increase NII in the first half by 2% to €2.45 billion from €2.40 billion a year ago, although CFO Stefan Dörfler said the dominating factor was the catch-up booking from the third tranche of the ECB's targeted longer-term refinancing operations, or TLTRO.

Interest rates remain low by historical standards, which could potentially hamper the bank's ability to generate NII, the source of roughly two-thirds of its revenues, according to Wehmeier. NII is also strained by a constant repricing of loans, she added.

Overall, Erste has navigated the low interest rate environment steadily, which Dubey attributed to a "balanced business model" in its markets. There are also "mitigating factors" that could help the bank handle low rates, according to Le Phuong.

"If rates remain low, client payment capacity should remain sound and should result in [a] lower figure of defaults and thus provisioning," Le Phuong said.

However, countries in the region are operating in an inflationary environment that often leads to rate actions, which should help Erste's margins, Dubey said. Hungary and the Czech Republic have recently raised rates in response to rising inflation.

The bank has set a more ambitious target for net fee and commission income. This rose 15% in the first half of the year, and Erste expects fund management, the securities business, insurance brokerage and a recovery in payment services fees to contribute to sustained growth.

Downside challenges

Given the bank's prospects are heavily tied to macroeconomic developments, any deterioration in the broad outlook would pose a challenge to meeting the targets. Such a deterioration could lead to higher problem loans, which would exacerbate the effects of low rates and limit loan demand.

Wehmeier said these factors are "unlikely to be balanced by higher fee and commission income generation, even for a bank such as Erste with a strong track record."

Erste said it could also be challenged by "changes to the competitive environment," while Le Phuong said excessive inflation could "dampen" growth for the bank.

Executives at the bank remain cautious as uncertainty persists, especially from the pandemic. During the earnings call, Spalt said now is not "the time to call victory over the virus and over the volatility, because we still have some way to go."

Nevertheless, Ford Equity Research said in a July 30 report that it expects Erste to outperform the market in the next six to 12 months. The bank's share price grew 30.37% during the first seven months of the year, outperforming the 23.75% increase of the STOXX Europe 600 Banks index in the same period.