Agencies
New York
Global banks could boost their valuations by a combined $7 trillion in the next five years if they take major steps to promote growth and boost productivity, the Boston Consulting Group (BSG) said in a reporton Monday.
Lenders could roughly double their current valuations if they pursue growth and improved price-to-book ratios despite obstacles, theconsultant said.
“The largest driver of pessimism about the banking sector has been the significant drop in profitability,” BGC said.
About 75 percent of bank stocks had price-to-book ratios below 1 in 2022, while price-to-earnings multiples were almost half of 2008 levels. Meanwhile, shareholder returns on bank stocks have lagged those of major market indexes since the crisis, and the gap is widening.
Even if they invest in productivity and radically simplify their businesses, bank profits will remain under pressure from higher capital requirements and increased competition from newer players such as fintechs, BCG said.
“Banks are not likely to return to the profitability levels and valuations that existed prior to the global financial crisis,” the consultant said.
Banks’ share of total financial assets in almost all economies has been steadily declining. The trend is accentuated in markets where many banks have unsustainable financial returns—bank valuations remaining below book value for sustained periods—and in high-growth economies where demand for production credit is rising at a rapid pace.
Yet, the expectations for regulated banks will only increase: higher capital requirements, further consumer-protection rules (especially in a higher-interest-rate environment that poses debt challenges for many households), necessary investments into shared financial infrastructure, and further fee compression owing to increased competition.
As governments and regulators increase their designs on the future of financial markets and innovation, there is a window of opportunity to address information gaps between financial actors and government decision makers. By creating full transparency on long-term regulatory objectives, implementing new technologies (such as real-time payments networks) to realize lower-cost infrastructure outcomes, and enabling economic options for banks to earn returns above the cost of equity, banks and regulators can create win-win solutions for many economies.
“Governments will place a heavy burden on banks to serve as catalysts for change, especially in the area of climate transition, while regulators will continue to request additional capital requirements,” says Saurabh Tripathi, the global leader of BCG’s Financial Institutions practice and a coauthor of the report. “This creates an important opportunity for collaboration. Regulators can take complementary steps, without compromising on systemic stability and risks, that reinforce banks’ business models. These could be in the form of new approaches to regulation, consolidation where appropriate, the creation of industry utilities, or frameworks for easier outsourcing to enable more scale benefits, for example.”
If banks want to win competitively, they must drive toward far-higher productivity and radically reduce the cost of complexity. Starting with a digital-first delivery concept and a detailed cost-driver understanding, it is possible to design a zero-based business model that will allow a step change in productivity that is 40% higher than what is considered normal today.
Banks will also need to make portfolio decisions that enhance value. They should exit business lines or, at a minimum, reduce capital exposure to low-return asset classes and invest in new areas of strategic growth that possess more favourable levels of return on equity.
Banks’ dramatically simplified business models must be supported by an actively managed balance sheet, a modern platform operating model, a bold deployment of front-to-back digitization, and a comprehensive reimagination of functions that leverage AI and generative AI. The new operating model should help deliver vastly more impact from data and technology as well as help build strategic partnerships and capabilities for competitive advantage.
“Banks cannot just aspire to be technology companies,” said Kilian Berz, vice chair of BCG’s Financial Institutions practice and a coauthor of the report. “They have to be tech product companies that encapsulate the ideas of customer obsession, test and learn, and radical simplicity, along with embracing risk management and compliance as a strength.”
