The banks are coming off a period when Europe’s debt crisis forced them to write off 4 billion euros in Greek borrowings and endure a crippling liquidity crunch. And although they, like their regional counterparts, benefitted from the European Central Bank’s 1 trillion euros in loans, asset cuts to meet new regulation and the return of the debt crisis are hurting profit.
“It’s a transformational year,” said Jean-Pierre Lambert, a London-based analyst at Keefe, Bruyette & Woods Ltd. “The liquidity problem is sorted, and this benefited French banks. Now, questions remain about profitability and their capacity to adapt to new capital rules.”
Although one-time gains from asset disposals, as with BNP Paribas’s sale of a stake in property company Klepierre SA, may bolster results, profit from operations may not pick up this year as the banks strive to meet Basel III rules. Revenue from corporate- and investment-banking operations, which accounted for most of the earnings decline last year, may shrink again.
“They’re fixing their house and that’s going to restrain 2012 earnings, but it should also restore potential for 2013 and 2014,” said Jerome Forneris, who helps manage 8 billion euros at Banque Martin Maurel in Marseille and owns shares in the two banks. “We are very far from last fall’s extreme fears.”
Relief over the end of the liquidity crunch boosted the shares of the Paris-based banks in the first quarter. BNP Paribas rose 17 percent after sliding 36 percent last year. Societe Generale jumped 28 percent after a 57 percent 2011 drop.
They have since tumbled on concern Socialist candidate Francois Hollande, who calls finance his “biggest adversary,” may win in the French presidential elections next month and as the specter of a debt crisis in Spain has roiled markets.
BNP Paribas shares have dropped 14 percent since the end of the first quarter and traded 0.8 percent lower at 30.75 euros as of 10:50 a.m. in Paris. Societe Generale shares, which have slipped 17 percent since March 31, were down 1.7 percent at 18.26 euros.
“If the asset reductions are fruitful and once the least profitable assets are cut, there’s no reason why BNP Paribas and Societe Generale wouldn’t develop their leading franchises in fixed-income and equity derivatives,” Forneris said.
Basel III will push European banks toward a U.S.-style “disintermediated” financing in debt markets for corporate clients rather than traditional loans. BNP Paribas and Societe Generale plan to use their positions in this market to boost growth at their corporate- and investment-banking units.
“We are one of the leading firms in terms of euro bond issuances, regularly in the top two, top three for corporate clients, and we’ve had a very good start in 2012,” Societe Generale Chief Executive Officer Frederic Oudea said at a Morgan Stanley Conference in London on March 28.
The bank may also look to emerging markets insurance, which creates “value without using scarce resources in terms of liquidity and capital,” Oudea said.
At the same conference, BNP Paribas CEO Jean-Laurent Bonnafe said his bank, in addition to boosting bond financing and making an emerging markets push, will look to leverage its global network to develop banking and cash-management services.
Still, BNP Paribas, whose return on equity fell below 10 percent last year for only the second time since its creation in 1999, may see that profitability measure at 9.4 percent this year and 9.3 percent in 2013, according to the average of estimates from 10 analysts surveyed by Bloomberg.
Societe Generale’s ROE may fall to 5.7 percent this year from 6 percent in 2011 and 9.8 percent in 2010 before rising to 7.2 percent next year, the survey showed.
Societe Generale, which will report first-quarter results on May 3, had a 39 percent drop in profit last year to 2.4 billion euros. In 2011, BNP Paribas, which unveils results for the first three months of this year on May 4, posted a 23 percent decline in net income to 6 billion euros. Julia Boyce and Nathalie Boschat, spokeswomen for BNP Paribas and Societe Generale respectively, declined to comment on profit estimates.
The average ROE in the global investment-banking industry may fall to 6.8 percent in 2013 from 13.6 percent previously following regulatory changes including Basel III capital rules and the U.S. Dodd-Frank Act, JPMorgan Cazenove analysts led by Kian Abouhossein wrote in a March 13 report.
Europe “is undergoing by far the biggest changes within the global investment-banking industry” with the continent’s lenders cutting about 2 trillion euros of assets, they said.
BNP Paribas and Societe Generale, about halfway through cuts of as much as 85 billion euros in risk-weighted assets at their corporate- and-investment banking, or CIB, divisions, are racing with European rivals to scale back balance sheets.
BNP Paribas is targeting a Basel III core Tier 1 ratio of 9 percent by early next year and Societe Generale aims to reach a ratio “well above” that by 2013. The two banks are globally cutting about 3,000 CIB jobs.
Societe Generale disposed of 13.1 billion euros of subprime-era assets last year. Oudea oversaw the sale of 6 billion euros of corporate loans with losses below 3 percent. The bank abandoned its 2011 dividend.
“We are confronted by deep changes,” Oudea said in a BFM TV interview last week. “The change in the economic environment, the change in rules that are considerable and we tend to forget that Basel III marks a profound change in the banking model, in the nature of the business.”
BNP Paribas is selling energy, commodities as well as project-and-leveraged finance assets. In February, it sold $9.5 billion in North American energy assets to Wells Fargo & Co. It sold a 28.7 percent stake in French property company Klepierre for 1.5 billion euros last month.
The two banks also retreated from dollar-linked operations such as aircraft financing as U.S. funding evaporated. Their CIB units cut dollar funding by $112 billion in the second half.
Late last year, BNP Paribas ceded its spot as Europe’s largest bank by assets to Germany’s Deutsche Bank AG after topping the list in 2010 with the purchase of Fortis’s assets. It shrank its balance sheet last year by 1.7 percent to 1.97 trillion euros, the smallest since the financial crisis in 2007.
The bank, which forecast 1.2 billion euros in one-time losses and costs as it shrinks its CIB unit, has about 860 million euros to go.
Also weighing on profit is the worsening economic outlook in Europe. France, the euro-area’s second-largest economy, has slowed; Italy and Spain, the third- and fourth-largest economies in the euro area, are in their second recession since 2009. BNP Paribas gets about 9 percent of its total sales from Italy.
“You can’t shelter profits when economic conditions deteriorate,” said Christophe Nijdam, a Paris-based banking analyst at AlphaValue. “French banks can’t reduce lending in core markets. But recession risks make even more acute the need for rapid asset cuts in corporate and investment banking.”
Europe’s debt worries, which abated after Greece’s second rescue this year and were calmed by ECB funding to banks, are resurfacing. Spanish 10-year bond yields rose to 6 percent on April 11, near levels that drove Greece, Ireland and Portugal into bailouts. Italian yields, which fell more than 2 percentage points between Prime Minister Mario Monti’s appointment in November and early March, have risen on contagion concern.
French banks held $620 billion in private and public debt in Greece, Portugal, Ireland, Italy and Spain at the end of December, the world’s highest such holdings by foreign lenders, according to the Bank for International Settlements.
At home, French sovereign debt stands at more than 85 percent of gross domestic product. Hollande, who’s leading in the polls against President Nicolas Sarkozy, has said he may raise the minimum wage, pull back the retirement age to 60 from 62 for some people and add 60,000 teachers at public schools, raising concern he will increase borrowings.
“We’re in a world of capital and liquidity shortages; you need the strictest discipline putting scarce resources to work,” said Jean-Marc Moriani, founder of advisory firm JM Conseil and former head of Natixis SA’s investment-banking unit. “Investor bets can’t reflect profits as long as sovereign uncertainties keep weighing without distinction on European banks.”
To contact the reporter on this story: Fabio Benedetti-Valentini in Paris at firstname.lastname@example.org
To contact the editor responsible for this story: Frank Connelly at email@example.com