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HSBC prepares for worst-case Brexit and warns growth in Asia will be slower

HSBC Holdings PLC has increased its estimated losses on loans for the year ahead amid fears over the impact of Brexit on its business, while cautioning against weaker economic outlook in China as it presented full-year 2018 results.

The bank's shares fell 4.2% to 636 pence per share midmorning in London after it unveiled disappointing profit growth and below-expectation revenue after it was hit by turmoil in global markets in the fourth quarter.

Analysts at Goodbody Stockbrokers said the significant slowdown in loan growth in Asia, higher costs, global trade uncertainties and Brexit-related fears "call into question" HSBC's ability to attain its 11% return on tangible equity target for 2020, though the bank said it was still on course to do so. It reported ROTE of 8.6% at end-2018.

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HSBC CEO John Flint.

Source: HSBC

The U.K. and China are its two largest markets and on both it warned that it was facing "idiosyncratic" risks to growth over the year ahead because of Brexit and the China-U.S. trade war along with China's slowdown.

Group CFO Ewen Stevenson said the U.K. presented "unique challenges." The country is set to leave the EU on March 29, at the moment without a deal agreed with the EU on the terms of its departure or its future trading relationship with the bloc.

The bank took a $165 million impairment adjustment in the final quarter, Stevenson said. In total it had recognized additional impairment allowances of $410 million, an increase of $165 million compared with Jan. 1, 2018, to reflect the increased level of economic uncertainty in the U.K.

"Our 2019 revenue scenario is less predictable with the possibility of 'idiosyncratic' growth in the U.K. and to a lesser extent in Hong Kong and China. We are looking at slightly lower rates of growth in Asia this year than we saw last year. But we have capacity to take market share in retail and commercial banking in the UK," said Stevenson.

French focus

HSBC is Europe's biggest bank by market capitalization and it now has 1,000 employees in its program to manage the impact of Brexit covering all businesses and functions.

HSBC said it has operations in seven European Economic Area countries which rely on passporting with the U.K. Passporting allows banks to trade across the EU but this service will not be available to the U.K. post-Brexit. So HSBC said it will focus its preparations in France as its primary banking entity within the EU, where in 2018 it received regulatory approval. It said it is on track to complete its transfer of operations to its French business in the first quarter of 2019.

To account for customer migration and new business after Brexit, HSBC is also expanding its operations in the Netherlands and Ireland. It said its euro-denominated clearing facilities are now available in France and further product launches are planned.

Nevertheless, the bank said London would remain the best location for its global headquarters and it employed 39,000 staff in the U.K. It also said that, so far, the effects of Brexit uncertainty were limited.

"The only place we are seeing any softness in credit is the U.K., and most of that is not to do with Brexit," said Stevenson.

"We do not see the softness in the U.K. as broad-based deterioration. It is concentrated in a few sectors: High street retail, restaurant chains and some government contractors. But it's not broad-based, in this quarter, because of Brexit, it is hard to call the central economic scenario for the UK."

Nearly half of all HSBC's revenue, 49%, comes from Asia compared, with 47% in 2017, said CEO John Flint, while it makes about three-quarters of its profits in Asia. Flint, HSBC's former global head of retail banking, took over from Stuart Gulliver in February 2018 and has so far continued the largely China-focused strategy of his predecessor while attempting to boost its U.S. operations.

China's economic growth slowed to 6.6% in 2018, which was the weakest in 28 years.

No hard landing in China

"We expect China to avoid a hard landing and continue growing," said Flint. He also said that, while the U.S. and China were in the midst of trade war, not all regions of the world were similarly affected.

"While barriers to trade are rising in some parts of the world, they are also falling in others, for example Asia," he said.

However, the bank failed, in 2018, to achieve "positive jaws," the metric which indicates whether the bank is growing revenues faster than costs. Though operating expenses fell 1% to $34.7 billion in 2018, HSBC's jaw came in at minus 1.2%.

"I don't take this miss lightly. We, and many others in our industry, were impacted by market weakness in November and December, so whilst our costs were broadly on plan, reflecting the investment in growth in digital, our revenues in the fourth quarter were not," said Flint.

"I'm disappointed with the miss, but equally comfortable that we took the right decisions in the circumstances."

Flint said the bank planned to achieve "positive adjusted jaws" in 2019.

HSBC estimated penalties arising from tax-related issues would be at least $800 million, while it said it could also be subject to additional actions connected to historical foreign exchange-related probes.