Major British banks enjoyed higher pre-tax profits in the first half of 2019 but face revenue headwinds in the remainder of the year amid Brexit concerns, ratings agency DBRS has warned.
The agency said pre-tax profitability at big banks was up 22% year-on-year on aggregate in the first half, to £18.2 billion. Statutory profitability was boosted by a substantial reduction in legacy litigation and conduct costs in relation to financial crisis era mortgages made by Barclays PLC, Royal Bank of Scotland Group PLC, and HSBC Holdings PLC.
The big banks covered in the report were these three and Lloyds Banking Group PLC.
However, DBRS also said these reductions were partly offset by increased provisions at Lloyds and HSBC for compensation for the miss-selling of payment protection insurance after the banks saw a significant increase in information requests related to PPI ahead of the Aug. 29 industry deadline for claims.
Pre-tax profit boost
There was a substantial boost to the pre-tax results of HSBC and RBS related to the merger of two Saudi Arabian banks, Saudi British Bank and Alawwal, in which both had minority stakes. As a result, HSBC saw an overall pre-tax impact of £600 million in the first half that was a dilution gain recognized on completion of the merger, while for RBS it was £1 billion which included a gain on the disposal of its Alawwal stake in exchange for shares in the merged entity.
DBRS said the combined underlying pre-tax profit for the big U.K. banks decreased by 4% year-on-year to £18.8 billion in the first half, based on its calculations. HSBC boosted the banks’ overall performance after reporting a 7% increase in adjusted pre-tax profit on the back of sold revenue momentum, DBRS said. But other banks including RBS and Lloyds saw falls in their underlying profits.
The banks' aggregate underlying revenues were up 2% year-on-year with HSBC, in particular, delivering solid growth of 8% in underlying income as a result of a good performance in Asia and at its ring-fenced U.K. bank. Barclays, in contrast, was down 1% mainly because of margin pressure in the U.K. and lower capital markets revenues at Barclays International, the division which includes its investment banking operation.
Lloyds saw a 2% revenue decline year-on-year driven by a reduction in average interest-earning assets, while RBS saw a 4% decline in its investment banking arm NatWest Markets' core revenues as funding costs increased after ring-fencing. RBS' other operating divisions shrank by 2% mainly due to competition in the mortgage market.
Brexit concerns
DBRS said the U.K.'s scheduled departure from the EU on Oct. 31 could potentially lead to a further deterioration in Britain's macroeconomic conditions, which could have an impact on bank earnings. It noted that U.K. economic output contracted in the second quarter of 2019, representing an additional headwind for banks.
But it also said the impact of Brexit should be mitigated by the banks' conservative underwriting standards, mainly low-risk loan books and solid loss-absorbing capacity, which has been strengthened in recent years.
That said, there has been a sharp fall in the yield curve, an indicator of expected investment returns, and this could exert additional pressure on British banks' net interest margins.
