26 Feb, 2024
Italian banks' loan loss provisions in focus amid higher borrowing costs
By Deza Mones and Cheska Lozano
Italy's biggest banks are expected to set aside higher reserves in 2024 to guard against potential emerging loan losses as concerns over elevated interest rates and a slowdown in economic growth persist.
UniCredit SpA
Intesa will continue making provisions against potential loan losses, CEO Carlo Messina has said, even though it does not see any signs of asset quality deterioration. Its cost of risk — the main metric for following loan loss provisioning efforts — was at a historic low in 2023 at 36 basis points, and analysts estimate the ratio ticking up to 39 bps in 2024.
For UniCredit, cost of risk is expected to rise to 24 bps in 2024 from an all-time low of 12 bps. The lender has existing overlays of €1.8 billion on its performing portfolio, CEO Andrea Orcel recently noted.
Intesa has €900 million in overlays, but Messina said there is no evidence yet that the bank would need to use this in 2024.
Following record levels of profitability in 2023, both Intesa and UniCredit have issued strong profit outlooks for 2024 and pledged hefty capital returns to shareholders through a mix of dividends and share buybacks.
UniCredit said it expects to record 2024 profit that is broadly in line with last year's level of €8.61 billion and make shareholder distributions of no less than €7.7 billion for the next three years. Of the €10 billion in total shareholder returns for 2024, some €7.2 billion are residual distributions for 2023.
Intesa, meanwhile, is prioritizing dividends over share buybacks, and said it will review repurchases year by year. Its dividend payout ratio of 70% — one the highest among European banks — is equivalent to €5.4 billion in respect of its 2023 profit, to be complemented by roughly €1.7 billion in share buybacks. The bank aims to beat its 2023 net income of €7.72 billion in both 2024 and 2025, projecting a profit above €8 billion each year.
At Banco BPM, dividends rose 143% year over year to 56 cents per share for 2023 following an 85% jump in annual profit.
Challenges ahead
Banks' upbeat profit outlooks for the current year should be treated with caution given the highly uncertain macro scenario, with Italy's economic growth expected to remain weak at 0.6% in 2024, Scope Ratings said in a recent analysis.
High nominal yields, the government's elevated debt issuance needs, and the reduction of the ECB's balance sheet shrinkage "might reignite domestic sovereign risk in a worst-case scenario, with repercussions on banks' funding costs," Scope Ratings wrote, adding that the risks for a new windfall tax or higher minimum reserve requirements remain.
Nevertheless, Italian banks are better equipped now to withstand downturns than they were in the past decade, mainly due to their larger capital bases, more effective credit risk management and control and significantly stronger corporate borrowers, S&P Global Ratings said in a report.
Net interest income (NII), the main driving force for the profit surge in 2023, has likely reached a peak. This, however, will not necessarily translate into lower lending income for Italian banks in 2024 as their average margins should remain above historic levels, Morningstar DBRS said in a report. Additionally, Italian banks have been implementing hedging strategies against interest rate cuts, which should mitigate the negative impact on NII, the credit rating agency noted.
NII at Intesa, UniCredit and Banco BPM is projected to dip slightly from the peak of 2024, though it would remain high by historical standards.
Italian banks' cost-to-income ratios have fallen in each of the last four years, Market Intelligence data shows, aided by the major uptick in revenues. Yet lenders could see an up to 3% rise in operating expenses in 2024, mainly driven by the renewal of national banking labor contracts, S&P Global Ratings noted.
