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Banking on rate rises

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Banking on rate rises

18 May 2022 | By Robin Young

The recent bank reporting season preceded the first official interest rate rise in 11 years and shed light on three key areas of focus for the sector – each with potential implications for investors.

Executive Director of E&P Research, Robin Young, says although the rate rise was largely expected and banks were prepared for the next stage in the rate cycle, investors should be aware of some of the broader business effects, outside the immediate impact on mortgages.

“As inflationary pressures continue to build and banks respond, the landscape will invariably change and offer new opportunities where investors can take advantage of the different approaches of participants within a still fiercely competitive market.” he says.

The pressure valve for net interest margins

This first rate rise already signals an improved outlook for banks by alleviating some of the pressure on net interest margins ― one of the most important aspects of bank profitability, says Young.  

“The protracted period of low rates depressed net interest margins and return on equity, however, as rates now start to increase, we should expect these margins to grow, underpinning improved profitability and supporting dividends and potential capital management. ” says Young.

Cost-saving ambitions have changed

As banks now look to mitigate and manage the looming effects of inflation, it has already led many to reassess their cost-saving ambitions, says Young.

“Cost saving will become the new balancing act in the sector as we enter an inflationary era. There is a need to generate greater efficiency but the investment requirement to retain talented staff and develop new infrastructure will continue, so the parameters will have to be carefully managed. Those with already defined targets may face pressure to adjust their expectations.” says Young.

The evolution of the lending landscape

With a slowdown in housing turnover and mortgage lending expected to occur in line with rising rates, business lending is set to pick up further, says Young.

“Those banks with a balanced business model are in an effective position to benefit from improved conditions in business lending where the potential for growth remains strong in a period where unemployment is still low, confidence is high and many businesses are looking to invest.” he says.  

This reporting season offered critical insights into how banks are currently positioned to navigate the next economic phase and will provide a valuable litmus test for investors going forward.

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