A Nairobi Securities Exchange employee on the trading floor. PHOTO | FILE
Banks have just concluded the release of third quarter results and looking at those numbers, I would advise against further exposure to bank stocks. The third-quarter outcomes are just too business-as-usual to excite current valuations.
Looking at the topline keenly, there was visible pressure on the core business. For the nine months to September, while gross loans and advances grew by 21 per cent year-on-year, interest income earned from the same only grew by 18 per cent year-on-year.
This year-on-year growth mismatch in the two key line items is a clear evidence of the existence of pressure on the business. Although you could also argue out the mismatch in two ways.
First, that maybe most of the loans could have been booked in the last month of the quarter, but then again, it’s not practical for all banks to book a good chunk of their loans in the last month of the period. Second, that lenders re-priced their loans downwards during the period, which did not happen anyway.
Still staying with this topline issue, it looks to me that banks may eventually have to consider recalibrating their niche to the extent that the less risky players will be forced to move down the risk-curve.
This will mean investing in new product roll-outs as well as building scale to handle new segments. This can also mean even acquiring a player that is already a well-established in the target niche.
Otherwise, I just don’t see how banks will start recording exceptional business periods and posting year-on-growth rates in excess of 20 per cent.
The performance of the midline should also worry investors.
First, funding costs have escalated. In fact, in the nine-month period, funding costs rose by 30 per cent year-on-year. The worst affected were medium-sized (Tier II banks), who saw their combined funding costs rise by 33 percent year-on-year. And this is largely because of their reliance on wholesale deposits for balance sheet funding.
Even the large Tier I banks, that often have a strong reliance on low-cost current and savings account liabilities, weren’t spared either and saw their balance sheet funding costs rise notably by 29 per cent.
However, funding costs are very cyclical and often track prevailing ‘risk-free’ rates. But the fact that banks, across the board haven’t built enough resilience to the upward swings, as has been demonstrated over the last two upward cycles (2011 and 2015), should be a worry point.
Second, the rise in third quarter loan loss provisions is eye catching. For the period under review, loan loss provisions rose by 21 per cent year-on-year, which is quite significant.
And as the spotlight now turns on banks’ bad loans recognition system, especially in the wake of the two recent failures, provisioning levels could escalate in the fourth quarter.
So you can see that the year-on-year growth rates in the two midline items dwarfed the topline.
When this trend spills into fourth quarter, which is highly likely, and combined with the fact banks may be required to beef up their balance sheets over the next 24 months, investors should brace for reduced dividend payouts.
So it looks like banks have pretty much plateaued within their niches and it’s really hard to see the next growth story at the moment.
Investors haven’t been impressed either, as evidenced by the 50 basis points drop in price-to-book values of listed banks since December 2014.
Until banks start providing clarity on new risk strategies and building scale towards the same, investors should not re-expose themselves to bank stocks.
Mr Bodo is an investment analyst. Twitter: @GeorgeBodo.
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Note: The results are not exact but very close to the actual.
