Banks in the eye of the storm

Standard Bank has warned investors that it may not meet its financial targets, outlined just three weeks ago at the release of its annual results. At the time the bank was already pessimistic about the year ahead, warning investors that geopolitical risks (including the impact of the Covid-19 outbreak) and sustained economic weakness in South Africa could affect performance.

“While the Covid-19 pandemic continues to unfold and countries respond to this crisis in different ways, there is a high degree of uncertainty regarding the impact it will have on Standard Bank’s financial performance in the 2020 financial year,” CEO Sim Tshabalala told investors on a conference call. 

Similarly, companies like Sappi, Massmart, Sanlam, Nampak, Metair and Barloworld have warned investors that company performance is likely to be negatively affected as a consequence of actions taken to limit the spread of the virus.

The other big banks have not yet issued formal guidance to investors, but the conditions they face are no different. 

“It is clear we are headed for extremely tough times,” said Tshabalala. “We are aware that we work at the centre of the economy and it is our duty to help our clients keep their business and lives on track.”

It goes without saying that South Africa’s banks are highly exposed to the local economy, helping consumers finance personal overdrafts, vehicles, homes and business overdrafts.

The Moody’s downgrade of South Africa, and by default of the banks, will push up the cost of finance. The banks may find it difficult to pass those costs on to cash-strapped clients.

While most of the banks have announced measures to cushion their clients over the next few months, the reality is that many households and businesses were in trouble before the quarantine period began.

“The financial sector and the economy, in general, is entering uncharted waters,” says Professor Conrad Beyers, the Absa chair of Actuarial Science at the University of Pretoria. 

“High levels of uncertainty have the potential to cause eventual social and financial instability, especially if an extended lockdown is required. At present, it appears that the markets and the financial system are stable and that government and regulators are taking proactive steps to ensure stability. However, the potential for rapid change is ever-present due to the interconnectedness and apparent fragility of the system.”

For instance, if some interruptions of food supplies lead to sustained scarcities, the potential for a spiral of instability (both socially and financially) exists, he says.

“Policymakers and authorities should urgently consider eventualities that could lead to a general loss of trust in governance and money systems, especially in poverty-stricken areas.”

A rise in bad debts is inevitable. As it was, the banks are encountering higher levels of bad debt — FirstRand announced an 18% increase in bad debts in its six months to December while Nedbank announced a 66% rise in bad debt for the year to December 2019.

“The Moody’s downgrade confirmed what we knew — the economy was struggling, and until structural reforms are implemented businesses will continue to limp along,” says Zwelakhe Mnguni, CIO at Benguela Fund Managers. “The banks have implemented measures to support individuals and small companies, but this is kicking the can down the road and some of these businesses will go bust.” 

That said, South Africa’s banks are in a far better position to weather the economic storm than many other companies. 

Consider the impact that an oil price of $20 will have on countries like Nigeria and Angola, which were just beginning to recover from the last oil price shock. This will impact on MTN, Nampak and Sasol, among others.

Over the weekend the Prudential Authority of the SA Reserve Bank, which regulates the financial sector, proposed a series of measures to relax capital and liquidity requirements for banks during the crisis. If accepted, these could inject about R320-billion into the financial system, which banks will then be able to extend to clients in the form of loans.  

“If he [Kuben Naidoo, deputy governor of the SA Reserve Bank] had any concerns about the capital adequacy of the SA banking system he would not have proposed relaxing prudential limits,” says Reuben Beelders, CIO of Gryphon Asset Management. “Our financial system is sound and will weather this, but it won’t be pretty.”

Other sectors are of greater concern, such as the property sector. Edcon is unlikely to pay rent in the foreseeable future — forcing landlords to replace 3% to 8% of their revenue while paying the same expenses.

Other retail tenants including Mr Price and TFG are pushing back on rentals too. 

“This does not pose a huge risk to banks as they have largely migrated away from property finance because the capital rules made investing in property less attractive for them,” Beelders says.  

Aside from property companies, the clothing and furniture retailers are in for a torrid time. “Many of these companies have been ramping up their credit books, and their customers are at the cutting edge of the risk,” Mnguni says.

In addition, the mining sector will come under pressure, putting South Africa’s foreign exchange reserves under stress.

“It’s just a matter of time before we see the impact on the prices of  iron ore, copper and the like, they tend to lag oil.”

The government’s long-promised structural reforms are increasingly urgent. BM