European Bank Shares Fall as Deutsche Faces Liquidity Concerns

As European banks' profits continue under pressure in 2016, using Morningstar Select we reveal four European banking stocks Morningstar analysts think they are undervalued 

Karen Kwok 29 September, 2016 | 3:54PM
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Germany’s largest lender Deutsche Bank (DBK) has seen the value of its shares halve since January, hitting a record low of €10.18 today. Downward pressure today came from concerns that the bank may lack the capital to pay litigation costs and meet stricter regulatory standards.

With fines reaching ever higher levels, the result is likely to be punishing for Deutsche’s shareholders

On September 16, the US Department of Justice proposed Deutsche Bank pay $14 billion to settle claims against the bank for mis-selling mortgage securities. The bank responded saying it had no intent of settling at anywhere close to that figure, but the news have revived investors’ worries regarding the bank’s overall liquidity.

“The bank currently has €5.5 billion in reserves, and we model another €4 billion in charges over the next few years. The bank indicated that it views a $2 billion to $3 billion settlement over this issue as reasonable,” said Stephen Ellis, director of financial services equity research at Morningstar.

Yet concerns about the health of Deutsche Bank continue to haunt investors. Last week media revealed that German Chancellor Angela Merkel has ruled out providing any state aid for the bank.

The news dragged down shares of major banks across the UK and Europe today as the market questioned the profitability of the wider sector. The settlement announcement comes on top of concerns about the impact of negative interest rates in the Eurozone and after a series of major regulatory issues.

Commerzbank Cuts Dividend

Commerzbank (CBK) today also revealed its plans to slash almost 10,000 jobs, suspend dividends and shrink securities trading in the biggest overhaul at the German bank since being bailed out in 2008.

Commerzbank will cut 9,600 jobs, merge Mittelstandsbank, catering to small and medium-sized companies, with the corporates and markets unit and scale back securities trading operations, the bank said in a statement. The restructuring plan will take until 2020 will cost about €1.1 billion.

Health of European Banks Cause for Concern

With German banks Deutsche Bank and Commerzbank on investors’ radars once again for the wring reasons, questions are raised regarding the health of the European banking system. Low interest rates in the Eurozone continue to put pressure on the profits of European banks against the backdrop of a weak European economy.

In the recent European Banking Authority’s stress test, Deutsche Bank and Commerzbank appear weak relative to the overall European banking system, with adverse results of 7.8% and 7.4%, indicating the difficult competitive environment faced by German banks.

Ellis said operational and legacy issues are the biggest risks Deutsche Bank facing.

“Deutsche Bank is also facing investigations into whether it manipulated foreign exchange markets, where it is one of the top two players. It has already fired several foreign-exchange traders, and warned that investigations could have a "material" impact on the bank,” Ellis said.

With regulatory fines reaching ever higher levels, the result is likely to be punishing for Deutsche’s shareholders. The stock is currently having a four-star rating, meaning Morningstar analysts believe the stock is trading below its fair shares estimate.

Commerzbank also has a four-star valuation rating. Ellis said the bank’s profits would be hurt by a low interest rate environment. While the low-rate trend continues, the bank will struggle to keep its head above water in Germany’s crowded banking market. The bank is still losing about €100 million-€200 million per quarter, and Ellis expects this to persist for the near term.

Poor Italian Banking System

The Italian banking system is deeply troubled. The Italian banking system is rated poor by Morningstar’s banking system assessment, indicating that it is an unstable system and that the banks did not have a competitive advantage over peers operating in the wide region.

The future of the only five-star rated European banking stock Mediobanca SpA (MB) is closely associated to Italian banking system reform.

Mediobanca is one of the best-run banks in a very difficult Italian banking system, Ellis said. While the stock is heavily undervalued, it appears to be a very favorable position amid industry reform as the best-run bank in the system, Ellis said.

However, while the outlook appears stable, Ellis said the system needs structural reform before Mediobanca can extract substantial economic rents. 

Undervalued Banking Stock in the UK

Data from Morningstar Select showed that there are 13 stocks with four-star ratings, which mean these stocks are considered by Morningstar analysts to be trading below their fair value estimates.

Among them is UK-based Lloyds Banking Group (LLOY), which has a four-star undervalued rating by Morningstar analysts.

However, unlike the troubled Italian banks, Lloyds is now one of the sturdiest banks in Europe, Ellis said: “Lloyds is re-emerging as the bank it once was; a strong, conservative, and impressively profitable retail-focused institution.”

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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Karen Kwok

Karen Kwok  is a Reporter for