It is an inconvenient truth, but most banks have been net beneficiaries of the uneven foreign exchange market. They found themselves in a position to arbitrage and leverage the forex and stock markets an act not easily possible for non-financial players. In the short term, the seeming stabilization in the forex will hurt some of the Banks’ lucrative income streams.
Below we submit our thoughts on why banks face tough times ahead.
The era of inflation induced stock rallies is behind us – the stock market has provided liquidity and inflation indexing to banks who sat with large balances. No bank has leveraged this better than FBC Holdings. Half year income from trading stocks was $1,9 billion for the first half of FY2020 and accounted for 53 percent of total income. Unlike other income streams, trading stocks flow through down to earnings as there are no operating costs associated with running a proprietary desk. Other banks have spun money on the market with trading income contributing on average 45 percent of total income.
It is no wonder FBC recorded one of the steepest stock rallies in the last six months and now sits 8th on list of top YTD gainers – a whopping 1422 percent. We do not think such feats can be repeated in the short term. The stock market gains are expected to be more muted and measured in line with declining inflation and low economic growth.
Foreign exchange hedging and gains will be no more – of the listed banks, foreign exchange related income accounted for a significant portion of total income for banks. These we not commissions for currency exchange. Rather much of this had to do with hedging activities that are set not to be repeated under a market driven foreign exchange market. As an example, CBZ’s FY2019 results were concerning. 51 percent of the total net non-interest income of $2.3 billion for the period had to do with foreign exchange related income. We believe these sources of income provide less certainty for repeating in coming years. Banks fees will be confined to facilitating forex trades going forward
New Tier 1 capital requirements – when the call for banks to cushion up their Tier 1 Capital by at least U$$30 million was made little protest was made. The recognized official exchange rate was around 25 to the US Dollar and black-market rate almost double that. Now that the official rate is 83 and closing gap with the black-market rate, the Tier 1 capital requirement now seem burdensome, even for listed banks. FCB third largest of the listed banks issued a statement warning that it might fail to meet up the US$30 million mark. At least the RBZ has extended the deadline to 2021, but even so, with a market determined FX market banks may need to offer rights issues or merge diluting their value.
Add to these negatives all-time low net interest income, banks may be facing depressed earnings if not negative in the second half and beyond. We are generally negative on all banks with some consideration for ZB Financial Holdings and NMBZ.
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