S&P Global Ratings considers that weaker asset quality and revenue pressure associated with the COVID-19 pandemic will continue to weigh on the profitability of many financial institutions operating in Europe, the Middle East, and Africa (EMEA).

Supported by various stimulus measures, EMEA economies that have reopened after the lockdown related to the first wave of the pandemic now face a new challenge. As authorities apply the health lessons learned over the past six months--such as track and trace, limiting nonessential social interactions, and shielding the vulnerable--they are also trying to avoid national lockdowns that triggered the economic meltdowns in the second quarter.

Key risks for EMEA economies persist, namely:

• A resurgence in the virus as winter approaches without a vaccine;
• The ongoing threat to solvency for companies with weak credit fundamentals;
• Increasing global trade tensions;
• Extended uncertainty inhibiting consumer demand; and
• Increasing doubts about whether a U.K.-EU trade deal can be concluded before year-end.

Against this backdrop, the authorities have been extending various support programs to protect employment and businesses, particularly targeting the hardest-hit hospitality, arts, leisure, and travel sectors. The concern is that many businesses in these sectors may no longer be commercially viable in a post-pandemic world where gradual structural changes in consumer behavior and business models have been accelerated by the disruption the pandemic has caused. What's more, although robust policy responses have averted a liquidity crisis, this comes at a cost to credit quality for the companies that take on additional debt amid weak and highly uncertain business prospects. This increases risk to the banking sector's asset quality.

While loan loss provisioning has substantially increased for banks in EMEA in 2020, we don't see liquidity and funding as a key risk for the sector given the ample injection of funds through open market operations. Indeed, there are signs that excess liquidity is creating other pockets of risk in primary bond markets pricing through fair value. In addition, European banks increased their exposure to European sovereign debt by a significant 15%, or €210 billion, between February and end-June 2020.

We consider the following the top risks for the EMEA banking sectors:

• A harsher macroeconomic environment leading to a slower, longer recovery, and/or limited effectiveness of governments' and banks' measures in containing the stress on companies and households, ultimately resulting in larger asset quality problems.
• Banks' lack of decisive responses to their profitability challenge, reinforcing low profitability as a structural, long-term problem that will weaken their ability to generate capital internally and externally, and ultimately to act as an effective intermediator of savings and credit in the economy.
• A lack of agreement between the U.K. and the EU on their future trade relationship. This could further weaken the growth outlook for the U.K. and, to a lesser extent, other open European economies, such as Ireland, The Netherlands, Belgium, or Norway, impinging further on banks' asset quality. However, we do not envisage major near-term disruption for the financial market infrastructure sector, as the desire to preserve financial stability in the U.K. and the EU will likely prevail.

S&P Global Ratings acknowledges a high degree of uncertainty about the evolution of the coronavirus pandemic. The current consensus among health experts is that COVID-19 will remain a threat until a vaccine or effective treatment becomes widely available, which could be around mid-2021. We are using this assumption in assessing the economic and credit implications associated with the pandemic (see our research here: www.spglobal.com/ratings). As the situation evolves, we will update our assumptions and estimates accordingly.

We continue to expect that bank downgrades resulting from the COVID-19 pandemic will be limited this year, although the rating outlook bias has turned markedly negative.  The net rating bias for financial institutions in EMEA has been markedly negative since April this year. This mainly reflects the downward revision of our central economic forecasts since the beginning of the year due to the effects of the pandemic and low oil prices, and the potential longer-term impact on banks' profitability. Nevertheless, we continue to anticipate that bank ratings will be largely resilient in the near term, due to governments' significant direct support to the corporate and household sectors and extraordinary support measures and flexibility from governments and regulators to ensure that banks continue lending. This also reflects our expectation of a 6.1% rebound in eurozone GDP in 2021, after a contraction by 7.4% this year.

Despite substantial provisions already created by EMEA banks in 2020, we expect further material provisioning in 2021.   Despite increases in provisioning, EMEA banks' half-year results have not revealed many new insights into asset quality, in part due to the cushioning effect of ongoing fiscal support to economies and banks' forbearance measures. As these factors wind down, underlying loan quality and the adequacy of banks' provisioning strategies will become clearer, likely once banks publish full-year 2020 results early next year. At the same time, banks' discretion in estimating expected credit losses under IFRS 9, the lack of comparable bank disclosures, and the variation in support measures and their efficiency largely explains the wide disparity in provisioning levels reported.

European banks are better equipped to fight this economic shock than that in 2008, thanks to 10 years of accumulated capital buffers.  As the data on the top 50 European Banks illustrate, risk-adjusted capital (RAC) ratios continued to increase in 2019 to 10.4% on average, up 50 basis points (bps), broadly in line with the trends observed over the past decade. However, we think that years of capital increases are likely to cease in 2020, reflecting likely asset quality and revenue deterioration associated with the COVID-19 pandemic along with the prolonged low-for-longer interest rate environment. We now expect our RAC ratio, on average, to decrease in the next two years by about 30 bps cumulatively--a moderate amount that largely doesn't affect our view of European banks' capital strength. At the same time, risks to our projections persist.

Historical virtues do not shield European cooperative banking groups from disruption.  We consider that European cooperatives tend to share one goal: prioritizing long-term stability over short-term returns, often resulting in strong capitalization. However, failures at many cooperative institutions in 2008-2011 demonstrated that they are not immune to the industry's irrational exuberance, associated profitability pressure, and excessive risk taking. At the same time, groups with weak or narrow franchises may not be able to withstand tighter competition, even if they have the capacity and mindset to invest in digital transformation. In addition, groups with high decentralization or very low profitability may be exposed to franchise erosion due to their lack of agility or capacity to invest. The proximity of many cooperative groups to their clients and their focus on social aspects remain assets in the digital age, providing many with a competitive edge amid high product commoditization. We expect most cooperative groups to sustain their competitive position, as long as they continue to evolve and their core customers remain sufficiently committed to them.

Russian banks' asset quality is likely to deteriorate in 2020-2021, but recovery might be faster than in previous crises.  We expect credit losses in Russia to increase to around 300 bps in 2020, gradually declining toward normalized losses of around 150 bps beyond 2022. These projections assume that Russia's real GDP will return to 2019 levels by early 2022. We consider that banks face the current stress in better shape than the previous crises over the past 11 years and will therefore likely show greater resilience and faster recovery, provided economic growth prospects are supportive overall, as we assume in our base-case scenario. The funding base of the Russian banking sector has proved to be stable overall, supported by a predominant reliance on domestic deposits, the availability of liquidity support from the central bank, and limited exposure to external funding.

We think that the COVID-19 pandemic--and the associated containment measures--will give the banking sector an additional push to increase customers' adoption of innovative financial technologies, thereby accelerating its digital transformation.

GCC banks' profitability will likely continue to fall over the next two years.  A protracted economic recovery in the Gulf Cooperation Council (GCC) countries means that lending growth will remain muted for the next 12-24 months at least, with the exception of Saudi Arabia, where mortgages have been expanding rapidly on the back of a government support initiative to increase home ownership in the country. The cost of risk will continue to increase, as problematic asset recognition is accelerating in the absence of additional support measures. Therefore, GCC banks' profitability will continue to fall, with a few reporting losses because of their exposure to high-risk asset classes or under-provisioning. This will push banks' management teams to look more carefully at costs, try to leverage opportunities related to fintech, and reduce the number of physical branches.

On the positive side, most GCC banks have good funding profiles and strong capitalization that should support their creditworthiness in 2020-2021. Funding remains dominated by core and stable deposits, with a limited contribution from external funding. Qatar is the exception to this, but the Qatari government's strong willingness and capacity to inject foreign-currency liquidity when necessary largely mitigate the risks. Capital is strong, both quantitatively and qualitatively, and protects the banks from stronger-than-expected shocks.

Risks include a lower oil price than we expect, an escalation of geopolitical risks, and lack of control over the pandemic. If such risks materialize, the impact on GCC banks could be much greater than we currently forecast.

Key Banking Sector Risks In EMEA

The table below presents S&P Global Ratings' views about the key risks and risk trends for banking sectors in EMEA where we rate banks. For more detailed information, please refer to the latest Banking Industry Country Risk Assessment (BICRA) on a given country. According to our methodology, BICRAs fall into groups from '1' to '10', ranging from what we view as the lowest-risk banking systems (group '1') to the highest-risk (group '10').

Selected Research

We have recently published a number of articles highlighting our views on EMEA banking sectors:

• How COVID-19 Is Affecting Bank Ratings: October 2020 Update, Oct. 22, 2020
• COVID-19 Puts The Brakes On Capital Strengthening For The 50 Largest European Banks, Oct. 14, 2020
• Banking Horizons Europe 2020: COVID-19 As A Catalyst For Change, Oct. 13, 2020
• GCC Banks: Lower Profitability Is Here To Stay, Oct. 13, 2020
• Bulletin: Swedish Banks High Capitalization Can Handle Regulator's Plans To Raise The Maximum Distribution Amount, Oct. 9, 2020
• Islamic Finance: Syndication Could Make Up For Sukuk's Shortcomings, Oct. 8, 2020
• Shock And…Ordinary: European Bank Primary Issuance In 2020 So Far, Sept. 29, 2020
• Losing LIBOR: Most European Banks Are Unlikely To Face A Cliff Edge, Sept. 29, 2020
• Embedding Environmental Factors In Strategy And Risk Management: For Banks, A Long Journey Just Begun, Sept. 28, 2020
• Resolution Regimes And Financial Institutions: Research By S&P Global Ratings, Sept. 28, 2020
• European Bank Asset Quality: Half-Year Results Tell Only Half The Story, Sept. 28, 2020
• Managing Through The Crisis, Europe’s Banks Look To The Future, Sept. 28, 2020
• Global Banking: Recovery Will Stretch To 2023 And Beyond, Sept. 23, 2020
• The European Sovereign-Bank Nexus Deepens By €200 Billion, Sept. 21, 2020
• Historical Virtues Do Not Shield European Cooperative Banking Groups From Disruption, Sept. 14, 2020
• Nordic Banks' Strong Capital Deflects COVID-19 Impact, Sept. 8, 2020
• Russian Banks: Asset Quality's Worst Is Yet To Come, Sept. 7, 2020
• Bulletin: Icelandic Bank Resolution Act Completes The European Map, But Implementation And Effectiveness Remain Unclear, Sept. 1, 2020
• Global FMI Sector Midyear 2020: Strong Cyclical Performance Is Set To Slow, Aug. 18, 2020
• U.K. Banks’ Creditworthiness Will Be Tested As Fiscal Support Ebbs, Aug. 13, 2020
• ESMA’s Stress Test Gives Clearinghouses Food For Thought, Aug. 5, 2020
• The ECB Takes Comfort In Likely Eurozone Bank Resilience, July 29, 2020
• Central Banks In Africa Are Guiding Banks Through COVID-19's Economic Fallout, July 22, 2020
• Global Banks Outlook Midyear 2020: A Series Of Reports Look At The Profound Implications Of The COVID-19 Shock, July 9, 2020
• The $2 Trillion Question: What's On The Horizon For Bank Credit Losses, July 9, 2020
• Ratings Component Scores For The Top 200 Banks Globally--July 2020, July 9, 2020
• Global Sukuk Market: A Window Of Opportunity Is Opening, July 7, 2020
• ECB Set To Ease Regulatory Hurdles To Eurozone Bank Consolidation, July 3, 2020
• Asset Quality Not ECB Liquidity Will Determine Eurozone Banks' Fates, July 2, 2020

The Future Of Banking

Technological disruption leads to new customer expectations and new forms of competition, but also offers new opportunities for banks. All these trends may ultimately influence the credit profiles of banking industries across the globe. We have published a number of articles highlighting our views on the readiness of various banking sectors to face the challenges and opportunities arising from the development of financial technology and digital transformation:

• Tech Disruption In Retail Banking: In Belgium, Smaller Players Could Have A Hard Time Keeping Up With The Big Banks, Oct. 7, 2020
• The Future Of Banking: Research By S&P Global Ratings, Sept. 14, 2020
• Tech Disruption In Retail Banking: Russian Banks Are Embracing Digital Transformation, Spurred By COVID-19, July 7, 2020
• The Future Of Banking: Building A Token Collection, July 1, 2020
• The Future Of Banking: Research By S&P Global Ratings, Feb. 19, 2020
• Tech Disruption In Retail Banking: Swiss Banks Are In No Rush To Become Digital Frontrunners, Feb. 13, 2020
• The Future Of Banking: When Central Banks Go Crypto, Feb. 11, 2020
• Tech Disruption In Retail Banking: The Regulator Is Moving Israeli Banks Into A Digital Future, Feb. 5, 2020
• Tech Disruption In Retail Banking: Nordic Techies Make Mobile Banking Easy, Feb. 4, 2020
• Tech Disruption In Retail Banking: Austrian Banks' Bricks And Clicks Model Still Does The Trick, Jan. 29, 2020
• Tech Disruption In Retail Banking: GCC Banks Are Catching Up As Clients Become More Demanding, Sept. 8, 2019
• The Future Of Banking: Fintech's Prospects In The Middle East And Africa, June 10, 2019
• Tech Disruption In Retail Banking: France's Universal Banking Model Presents A Risk, May 14, 2019
• Tech Disruption In Retail Banking: Swedish Consumers Dig Digital--And Banks Deliver, May 14, 2019
• The Future Of Banking: Will Retail Banks Trip Over Tech Disruption?, May 14, 2019

Economic, Sovereign, And Other Research

• North American Financial Institutions Monitor 4Q 2020: Finding Some Respite In The COVID-19 Storm, Oct. 22, 2020
• LatAm Financial Institutions Monitor 3Q2020: Climbing Out Of A Deep Plunge, Oct. 21, 2020
• Asia-Pacific Financial Institutions Monitor 4Q2020: Downside Risks Dominate, Oct. 19, 2020
• Top 100 Banks: COVID-19 To Trim Capital Levels, Oct. 6, 2020
• Credit Conditions Europe: Ill-Prepared For Winter, Sept. 29, 2020
• Emerging Markets: A Tenuous And Varied Recovery Path, Sept. 29, 2020
• Banking Industry Country Risk Assessment Update: September 2020, Sept. 25, 2020
• Cyber Risk In A New Era: Remedy First, Prevent Second, Sept. 17, 2020
• Economic Risks Rise As U.S.-China Disputes Heat Up, Aug. 25, 2020
• EMEA Emerging Sovereigns Rating Trends Midyear 2020, Aug. 3, 2020
• European Developed Sovereign Rating Trends Midyear 2020, July 31, 2020
• Global Sovereign Rating Trends Midyear 2020: Outlook Bias Turns Negative As Governments Pile On Debt To Face COVID-19, July 30, 2020
• What The EU Recovery Fund Breakthrough Could Mean For Eurozone Sovereign Ratings, July 22, 2020
• Credit FAQ: GCC Government Funding Needs Increase Sharply On Low Oil Prices And COVID-19, July 20, 2020
• The ESG Pulse: Social Factors Could Drive More Rating Actions As Health And Inequality Remain In Focus, July 16, 2020
• Russian Securities Firms Can Withstand Competing Banks And Greater Market Volatility In 2020, July 7, 2020

Rating Methodology News Research

• S&P Global Ratings Consolidates Various Articles Into Its Rating Definitions, Aug. 8, 2020

BICRA Changes

Since we last published this report on July 24, 2020, we have not revised our Banking Industry Country Risk Assessments (BICRAs), economic risk score, economic risk trend, industry risk score, industry risk trend, or government support assessment for any of the banking systems in EMEA.

Chart 1

About 55% of all outlooks on bank ratings in EMEA are stable, only 3% are positive, and 41% are now negative. In Western Europe, almost 47% of ratings have stable outlooks, with negative outlooks accounting for almost 49% of ratings, and positive outlooks accounting for nearly 4% of all ratings. For emerging market banks in EMEA, about 71% of ratings have stable outlooks, with negative outlooks accounting for nearly 25% of ratings, and positive outlooks accounting for nearly 3% of all ratings.

Chart 2

Table 2

Table 3

Recent Rating Actions: EMEA Banks

Table 4