The UK's largest banks have adjusted their net interest margin guidance for 2023 in anticipation of further Bank of England rate hikes.
Net interest margins (NIMs) — which measure the difference between the interest banks earn and pay out — are expected to come under greater pressure as borrowers adjust to a higher-for-longer rate environment. Deposit repricing and declining deposit balances are already offsetting some of the rate-related earnings benefits for banks.
"The higher the rates go, the higher the pass-through [to depositors] will be," Barclays PLC CFO Anna Cross said on a July 27 earnings call.
Barclays downgraded the 2023 NIM guidance for its UK banking business to 3.15%, from 3.20% previously, to reflect shifting customer behavior amid persistent inflation and rising central bank rates.
NatWest Group PLC also cut its NIM outlook to 3.15% from 3.20%, saying this reflects a higher expected Bank of England (BoE) base rate of 5.50% in the second half.
The BoE raised the base rate for the 14th time in a row, to 5.25%, at its latest monetary policy meeting Aug. 3. It is expected to announce another rate hike Sept. 21. At 6.4% in July, the UK inflation rate remains higher than in other major regions, with US inflation at 3.2% and EU inflation at 5.3% in July.
NatWest and Lloyds Banking Group PLC both booked a decline in second-quarter NIM from the first three months of 2023. It was the first quarter-over-quarter NIM drop the banks have recorded since UK base rates started to rise in early 2022.
Both domestic-focused banks also recorded quarter-over-quarter declines in net interest income (NII), the main driver of NIM, S&P Global Market Intelligence data shows. Barclays and HSBC Holdings PLC, which have a broader range of operations spanning global markets, reported continued NII growth.
Lloyds attributed the weaker second-quarter NIM to the rising passthrough of higher rates to depositors, as well as greater mortgage margin compression. The group, which had been more conservative in its guidance than peers, said it now forecasts 2023 NIM to be greater than 3.10% instead of more than 3.05%, as indicated previously.
The upgrade is based on Lloyds' stronger-than-expected margin in the first half and improved expectations for the second half, with earnings from its structural hedge likely to offset some of the deposit mix and mortgage margin headwinds, CFO William Chalmers said on an earnings call July 26. The structural hedge refers to balance sheet positions that do not reprice with market rates and serves to reduce the impact of interest rate volatility.
HSBC does not provide guidance for NIM but slightly raised its NII outlook and is now aiming for at least $35 billion in 2023, compared to some $34 billion previously. The bank remains cautious due to rising deposit costs and anticipated weaker loan growth over the next six to 12 months, CFO Georges Elhedery said on an Aug. 1 earnings call.
Analysts still see more tailwinds than headwinds for UK banks in 2023, with consensus estimates pointing to NIMs at all four banks peaking in 2024 and NII rising through to 2025, Market Intelligence data shows.
UK banks stand to benefit further from the reinvestment of their structural hedges, Berenberg analysts said in a July 5 note. The "benefit is material and will persist beyond 2023," though they noted that this would likely be offset by the headwinds from deposit repricing and less favorable mortgage margins.
While banks' balance sheets remain resilient, analysts expect loan loss provisions to increase over the next two years, Market Intelligence data shows.
Second-quarter credit impairment charges rose at all banks compared to a year ago, the data shows. The year-over-year increase in impairment charges reflected "heightened uncertainty in the macroeconomic environment as persistent inflation, slow economic growth and the expected deterioration in households' debt-servicing capacity weighed on modelled credit losses," S&P Ratings said in an Aug. 24 report.
Even so, UK banks are well positioned to absorb potential credit losses, thanks to their strong earnings and capitalization, Ratings said.
