Banks – Q4 2020 Earnings Season Themes

We are closely monitoring the latest trends in bank communications practices that keep investors and analysts informed. To that end, the following are key themes for Q4 earnings communications.

  1. 2021 Outlooks – Bank stocks rallied in Q4 2020, with the BKX and KRX indices increasing 34% and 48%, respectively compared to a 12% rise in the S&P 500. Investors are focused on whether the recent rebound in bank stocks can continue in 2021. Accordingly, banks’ near-term outlooks for loan growth, NIM, and expense trends will likely remain of keen interest. Through January 11, 2021, the BKX, KRX, and S&P 500 are up 10%, 11%, and 1%, respectively.

    Bank stocks rallied in Q4 2020, but still underperformed for 2020

Source: S&P Global Market Intelligence and Financial Profiles

Since these are the first communications of 2021, full-year outlooks will be of particular interest, with an emphasis on expectations for when we are through the worst of the pandemic. Perspectives on a credit recovery, pre-tax pre-provision (PTPP) earnings trends, and capital management actions are likely to be of primary interest to investors. In the absence of guidance commentary, banks should at a minimum be prepared to discuss their strategic and operational goals for 2021.

  1. Loan growth – Federal Reserve H.8 data as well as recent anecdotal banker commentary point to a more challenging quarter for loan growth for small banks (those outside the Top 25 by assets) in Q4 2020. Specifically, the H.8 data calls for a 0.1% linked quarter loan decline for small banks in Q4 2020, driven in part by a 4.6% contraction in C&I loans. The slower loan growth is not unexpected, as the pandemic is still raging, which is limiting consumer activity and business owners remain reluctant to commit to investments without more clarity on the vaccine progress and overall economic outlook.
    For the full-year 2020, small banks increased total loans by 10% compared to a 1% decline for large banks, according to Federal Reserve H.8 data. The largest loan growth delta between large and small banks in 2020 occurred in the C&I category, where small banks increased balances by almost 34% y-o-y (aided by the PPP) compared to growth of less than 1% for large banks. Earnings call Q&A will likely include queries about what lies ahead, including the potential for a lending rebound in 2021 amid widespread inoculations and an eventual end to the pandemic.
  2. The Paycheck Protection Program (PPP) – The Small Business Administration (SBA) released new guidance for the PPP last week following the passage of the Consolidated Appropriations Act, which renewed and extended the PPP until March 31, 2021. The most recent stimulus legislation provided up to $284 billion of additional emergency lending for eligible small businesses.

    Analysts are likely to seek information about banks’ participation and expected level of demand in their respective markets. Information on the volume of loan forgiveness in Q4 2020 will also be of interest, as will loan forgiveness expectations for the first half of 2021 given the latest stimulus package included a simplified one-page forgiveness application for loans of $150,000 or less.
  3. Credit quality/deferrals – Banks boosted allowances for loan losses in the first half of 2020, anticipating increased credit losses. Credit quality, however, has largely held up. Loan deferral rates declined dramatically in Q3 2020 and most expect this progress to continue in Q4 2020. Government stimulus programs played an important role in supporting credit metrics in 2020, and new payments to American households and another round of PPP could bridge the U.S. economy to a post-pandemic recovery. That noted, analysts are bound to continue to push management teams for color on potential credit stress early in 2021, particularly in vulnerable lending areas, such as the restaurant and lodging industries. According to the most recent H.8 data, banks for the most part stopped adding to reserves in Q4 2020, with small banks adding just 3bps to their allowance for loan loss ratios and these ratios falling slightly for large banks.

    Allowance for loan losses to total loans

Source: Federal Reserve H.8 data and Financial Profiles

  1. Interest rates/Net interest margins – The Federal Reserve dropped its benchmark rate to near zero in response to the pandemic. The lower rate environment helped banks bring down deposit costs, but asset yields were also squeezed, pressuring net interest margins in 2020. However, with the last rate cut occurring in March of 2020, NIM pressure is expected to moderate, albeit persist amid weak loan growth. Investors will continue to look for information to help assess which banks are seeing less pressure on earning asset yields, and which ones still have room to bring down deposit costs to offset this pressure going forward. The recent move higher in the yield curve is certainly welcome by bank investors and should ultimately support NIMs. However, this is unlikely to lead to a near-term NIM rebound as most floating rate loans are referenced to the short-end of the curve.
  2. Deposits – During 2020, banks were flooded with liquidity as consumers and businesses conserved cash and banked the PPP funding they received. Investors will be interested in understanding how quickly the liquidity built up by clients is being drawn down and any opportunities that banks have to redeploy their remaining excess liquidity into higher yielding assets to support NIMs. According to Federal Reserve H.8 data, deposit trends remained very strong in 2020 with growth exceeding 20% at both large and small banks. The sustainability of this deposit growth in 2021 is likely to be of interest as is the opportunity for banks to run off comparatively high-cost deposits.
  3. Noninterest income – With rates exceptionally low, healthy mortgage refinancing activity lifted fee income for many banks during 2020. But the Mortgage Bankers Association forecasts a 23% year-over-year decline in overall mortgage origination volume in 2021. For those banks that benefited from the refinancing boom in 2020, investors and analysts will be interested in hearing if they have other opportunities to offset the earnings headwind created by lower origination volumes.
  4. Expense management – With revenue challenges persisting, many banks closed branches and announced layoffs in 2020. Analysts expect banks to take further hard looks at their expense structures and perhaps discuss new cost-cutting and efficiency initiatives to offset the revenue pressures imposed by the pandemic.
  5. Buybacks and Dividends – Despite the challenges of 2020, banks remained well-capitalized, and dozens of community banks authorized new buybacks in the second half of 2020. Investors are now looking for additional buyback announcements as well as dividend hikes – both in terms of near-term catalysts for bank stocks and for indicators of long-term confidence in banks’ potential.
  6. M&A – Bank M&A activity came to a near halt in mid-2020, as the pandemic created too much difficulty in accurately assessing the health of a target’s credit quality and identifying a reasonable purchase price. According to S&P Global Market Intelligence data, only 112 bank deals were announced in 2020 for an aggregate $27.7 billion, compared with 258 deals worth $55.1 billion in 2019. The median deal value to tangible common equity ratio for deals announced in 2020 was 132.4%, down from 158.1% in 2019. However, when the pandemic eventually lifts, the lingering low-rate environment and increasing need to invest in technology are likely to lead to pick up in industry consolidation. During earnings season, management teams with wherewithal to pursue deals likely will get asked about their M&A appetites. Bank M&A activity is off to an early start in 2021, with SVB Financial Group announcing a $900 million deal for Boston Private on January 4 to accelerate the build-out of its private bank.

    U.S. bank deal statistics

Source: S&P Global Market Intelligence and Financial Profiles

U.S. Bank M&A activity in 2020 by geography

Source: S&P Global Market Intelligence