New Year’s Resolutions for American Banking

American bankers face an uncertain future. Unlike at New Year’s 2009, the uncertainty does not involve fear of an imminent collapse. The credit quality, capital, and funding foundations of the US financial system are sound.

Despite political gridlock and the attending economic uncertainty, both the VIX and TED spreads are trading below long-term averages. Nor does the US suffer the destabilizing interplay of sovereign finance and banking system weakness that plagues Europe. For all the global uncertainty, the US banking system appears to be “crisis proofed”.

But with little growth and substandard equity returns, US banking is providing inadequate returns to shareholders. Pre-tax, pre-provision income has not grown since 2009, and has been falling as a percentage of assets for a decade. Add increasing regulatory capital minimums to the mix, and we see ROEs that are unattractive to private equity capital. Sluggish macro-economic conditions and increasingly burdensome regulation do not offer much hope for a reversal of these headwinds in the near future. And so valuations of many banks languish near book value or below.

The two most obvious conditions that would boost bank earnings and valuations would be (1) at- or above-potential real GDP growth (which would increase demand, especially for credit) or (2) a rise in nominal interest rates (which would reflate deposit margins and NIMs). Ideally, the first would give rise to the second. Indeed, we have been waiting for both since the end of the recession. But over three years into the most sluggish recovery in the post-war era, neither seems likely in the near future.

So as we begin 2013, US bankers, investors, and policy makers can take comfort that we do not face the prospect of an existential crisis. But neither do we have the luxury to wait on events to restore the vitality of the banking industry. 

In our Point of View, New Year’s Resolutions for American Banking, we provide the steps needed to bring back the strength of the industry.

New Year’s Resolutions for American Banking