Ideas & Debate

Here’s why bank stocks rally may not last for long

AGM

Shareholders with a local listed bank follow proceedings during an investor briefing at a Nairobi hotel. PHOTO | Diana Ngila

Commercial banks first quarter results showed that the bloodbath, which began in the last quarter of 2016, continued.

Year-on-year, banks’ interest income from loans and advances, the main line item impacted by the Banking (Amendment) Act, 2016 declined by a whopping Sh15 billion (or whole 20 per cent).

But it seems the Tier II banks are bearing the biggest brunt of this ongoing Battle of the Bulge.

First, out the Sh15 billion, they took the largest haircut—at Sh10 billion (or 37 per cent year-on-year decline). Second, they are the only group which saw the share of income from loans and advances as a percentage of total funded income decline to below 70 per cent.

But the fact that the mid-sized group is bearing the biggest brunt didn’t come by mistake. Their balance sheets exhibited all the characteristics that put them in that position. For one, they fund their balance sheets expensively—mostly using wholesale institutional funds (with the exception of a few).

Two, 80 per cent of the group’s members lent to the consumers and micro, small and medium enterprises (MSMEs).

These are segments where the pricing tended to be on the roof. Third, because of their penchant for wholesale institutional funds, their interest rate sensitivity appeared more excruciating compared to their larger Tier 1 peers.

However, I must say they are relatively efficient—especially if you view them through the lens of their smaller Tier III peers.

But Tier II banks aside, the number of banks that reported operating losses in the first quarter halved to seven, compared to the 14 in the fourth quarter of 2016.

And the primary reasons for the halving are two: first banks’ loan loss provisions slid by 15 per cent year-on-year and secondly, banks across board, saw their funding costs decline by a third year-on-year, which in itself was driven by the relatively stable interest rate environment since third quarter of last year.

The first quarter results also showed that banks are still on course for their worst year.

And you just hope that they are busy making internal business adjustments for a possible long drawn-out closed cubicle environment—and not betting on whoever wins the general elections. In any case, whoever wins, the chances of total repeal are slim, in my assessment.

So I still reiterate that banks take business adjustments to this reality very seriously, especially tier 2 and 3 names.

It’s simple: keep balance sheet funding costs as low as possible, be as efficient as possible—in fact, if your cost-to-income ratio is still above 40 per cent then you are inefficient.

And the mobile phone should be a bank’s best friend. I just don’t believe retrenching is the most sustainable path to achieving efficiency. Finally, because interest income is now no longer margin-driven, volumisation is the next goldmine.

And volumisation will be more internal than external. Which means stuff like cross-selling have never been more important than today.

Unfortunately, all these items haven’t yet been put on the table across board, which implies that the latest bank stock price rallies may be short-lived unless investors are trading something else.