Too early to consider a wider industry review.  As we said in early February, we expect that 2021 will be a year of reckoning for many of the 40% of European banks that started the year on negative outlooks (see Capital Resilience Alone Won’t Stabilize European Bank Ratings In 2021, Feb. 3, 2021).

The continued negative bias recognizes that much of the industry faces significant challenge, despite unprecedented government fiscal support that will, in general, likely prevent this sharp cyclical economic downturn becoming an acute capital event (see chart 1). Economic downside risks persist and, even under our base case, the effects on bank asset quality are unlikely to become clear until much later in 2021. In addition, bank management teams across the region face a common challenge to adjust to the persistent weak revenue environment and imperative of digital transformation, albeit to varying degrees.

With this in mind, we still consider it too early to undertake a broader review of our negatively biased ratings across European banking systems. We will continue to take rating actions on individual banks or across national banking sectors where possible.

Idiosyncratic developments prompted a focused review.  We reviewed our ratings on the six banks as we saw idiosyncratic reasons to re-evaluate them following fourth-quarter 2020 results or in light of recent strategic announcements. For each bank, our rating triggers were more sensitive to idiosyncratic developments than any future revision in the relevant banking industry country risk assessment. In the same vein, the diverse rating actions reflect their idiosyncratic credit stories. They also acknowledge the different rating levels, with issuer credit ratings (ICRs) ranging from 'AA-' to 'BBB' and stand-alone credit profiles (SACPs) from 'a+' to 'bbb' (see table 1).

Table 1

We comment more fully on each bank below, but a unifying theme is a history of business transformation or restructuring, although to varying degrees. The scale of the task has varied enormously--some banks have already completed the heavy lifting while others still have much to do.

Nordea is on track to regain its competitive edge.  We always anticipated that Nordea would remain resilient, as its high ratings reflect, but we now consider it likely that management's business transformation and cost containment, underway since 2019, will achieve solid financial performance. Nordea's key financial targets for 2022 (return on equity above 10% and cost-to-income ratio of 50%) are some of the highest in Europe, certainly once potential earnings volatility is considered.

Chart 2

In 2020, Nordea was one of the few European banks that, despite not having a significant investment banking business, managed to grow pre-provision income--and not only from pronounced cost reductions, but also thanks to sound business volume growth. Indeed, we project the bank's operating income to rise by 3%-4% to €8.8 billion-€9.1 billion in the coming two years--not a huge amount but at a time when many peers will struggle to return revenues to 2019 levels.

We also anticipate that it will maintain high balance sheet strength despite the adverse environment. While the bank could return significant capital to shareholders by end-2022, this is largely because end-2020 capitalization was unusually high after it was prevented from paying out 2019 and 2020 profits. Its capitalization will likely remain a relative strength, in our view, and we expect that management will remain cautious until the full impact of the pandemic on the bank's asset quality becomes apparent.

Nordea now joins the vast majority of other Nordic banks that have a stable outlook, following the outlook revision on Finnish banks last month (see Outlooks On Seven Finnish Banks Revised Due To Their Resilience In The COVID-19-Induced Downturn, Jan. 22, 2021).

Barclays' diversity and solid 2020 provisioning suggest resilience.  Barclays completed its restructuring in 2017, and we recognize that it has since achieved greater stability.

Our rating action on Barclays rather stemmed from our view that its prudent provision coverage and solid capitalization will mitigate residual risks over the remainder of the credit cycle. Despite a large impairment charge (see chart 3), it performed relatively resiliently in 2020, supported by favorable market conditions for its investment bank. We think this diversity leaves it less vulnerable to the weaker-than-expected U.K. environment and asset quality than for more U.K.-centric peers.

Chart 3

A lower impairment charge will likely support a recovery in earnings in 2021 even if investment banking revenues fall back. Beyond that, we expect earnings will strengthen toward Barclays' 10% return on tangible equity target, but achieving this threshold will likely require a more supportive yield curve.

Deutsche Bank might finally return to relative stability.  Our outlook revision on Deutsche Bank acknowledges the bank's likely resilience to the current adverse economic conditions, leaving rating triggers focused on the restructuring story.

In 2013, we downgraded Barclays, Credit Suisse, and Deutsche Bank having revised down our view of their business position as they faced a challenge to reshape their investment banking operations--something UBS had already been forced to recognize. Barclays management completed its restructuring in 2017, and Credit Suisse in 2018, though it continues to refine its model even now. Deutsche Bank management started later than these peers, and it faced the most difficult restructuring task of all three banks, in an environment that became progressively harder to navigate. This is one reason why the SACP ('bbb') and ICR ('BBB+') are among the lowest of the globally systemically important banks and other large European names.

In earlier phases of this work, management made some in-roads on aspects such as improving the control environment, but it is only with the deep restructuring pursued since 2019 that Deutsche Bank now seems able to return to relative stability.

It could take another year to clarify whether the bank will ultimately achieve, or at least get close to, its 2022 financial targets, notably the targeted 8% RoTE. While falling restructuring costs and the realization of efficiencies will bridge most of the remaining gap, we see the greatest challenge from the revenue side. We expect that an 8% RoTE in 2022 would position Deutsche Bank around the median of the larger European banks (see chart 4).

Chart 4

Even if we were to eventually raise the ICR, this would reflect the full protection of its bail-in buffer for senior preferred creditors. We are unlikely to revise the SACP, and so our ratings on senior nonpreferred and capital instruments.

ABN AMRO's restructuring effort could squeeze profitability for the foreseeable future.  Our decision to revise down our assessment of ABN AMRO's business position (and so its SACP) mirrors similar actions we took on HSBC and Société Générale in 2020--two other leading European banks that face a multi-year restructuring.

Management embarked on a restructuring phase in the second half of 2020, seeking to reduce the bank's risk profile after several credit and market events. The restructuring effort is not as deep as that faced by Deutsche Bank (historically) or Commerzbank (prospectively), but we nevertheless expect the bank's profitability to remain under pressure over the foreseeable future. With net interest income forming about 70% of the bank's operating revenues, we expect its business model and revenue structure to remain sensitive to the prolonged low interest rate environment and lending growth dynamics in The Netherlands and neighboring countries. We believe that the bank's strategic refocus on these markets, while making sense from a risk-adjusted return perspective, exposes ABN to a risk of revenue attrition.

We affirmed the ICR as the bank continues to build its buffer of subordinated bail-in capacity that reinforces protection for senior preferred creditors. We now expect the bank's additional loss-absorbing capacity (ALAC) to stay above 8% of our S&P Global Ratings risk-weighted assets (RWAs) by end-2022, as the wind-down of some non-core assets within its Corporate and Institutional Banking division reduces RWAs and the bank increases senior nonpreferred issuance (see chart 5). The accumulation of bail-in buffers is currently the only broad positive trend across European banks that could drive an upgrade or affirmation of their ICRs. ABN AMRO joins a growing number of high-profile European peers, notably in the U.K., Germany, The Netherlands, Switzerland, and the Nordics, in having built large subordinated bail-in buffers.

Chart 5

The heavy lifting now starts at Commerzbank.  Like Deutsche Bank, Commerzbank is now far into a multi-phase restructuring that has already lasted for many years and took several attempts. In a deteriorating revenue environment, these measures have so far proved insufficient. Management is only now embarking on more radical steps to refocus and restructure operations. If successful, they would, by 2024, yield a material improvement in efficiency and a targeted RoTE of close to 7.0%.

However, we see significant residual difficulties throughout the process. Management's principal focus is to address a structural cost base that is unsuitable for the bank's earnings potential (see chart 6). However, this requires unwavering execution that focuses on reducing structural run-the-bank costs while accelerating the digitization of services and processes across the bank's value chain. Amid the tough operating environment, management's revenue targets are also more ambitious than they first seem--Commerzbank will need to offset revenue losses as it exits unprofitable client relationships.

Chart 6

Sabadell seeks to underpin its competitive position through greater efficiency.  Although Banco de Sabadell's capitalization is far from a strength, we see some resilience to adverse developments beyond our base case, particularly if a weaker credit environment were to materialize (see chart 7).

Chart 7

We see the bank's main challenge as the transformation of its business model to make it more profitable. The demanding environment--in particular the low interest rates, intense competition in an increasingly consolidated industry, and customers' accelerated digitalization post-COVID--will not make this an easy task for the bank's new management. While credit-positive, the potential sale of TSB Bank, Sabadell's U.K. subsidiary, may also prove difficult to execute. We look to the launch of the new strategy in May for clarification around how management will bolster existing measures to ensure that the bank has a sustainable future as an independent player.

Related Research

• Outlooks Reviewed On Six Leading European Banks; One Revised To Positive, Three Revised To Stable, Two Remain Negative, Feb. 26, 2021
• Capital Resilience Alone Won’t Stabilize European Bank Ratings In 2021, Feb. 3, 2021
• Low-For-Even-Longer Interest Rates Maintain Margin Pressure On European Banks, Feb. 2, 2021
• Outlooks On Seven Finnish Banks Revised Due To Their Resilience In The COVID-19-Induced Downturn, Jan. 22, 2021