Lloyds, Natwest and Barclays in for a ‘tough quarter’ as pressure on interest income persists
The outlook for the remainder of 2023 looks fairly bleak for the UK’s domestically focused banks as the tailwind from rising interest rates fades.
Barclays, Lloyds and Natwest will all report results for the third quarter this week with question marks over banks’ net interest margin (NIM), a measure of the difference between what banks pay out and receive in interest payments.
In results for the second quarter both Natwest and Barclays UK lowered their forecast for the full-year NIM on the back of an increasingly competitive deposit and mortgage market. While upgrading its own forecasts, Lloyds’ NIM dropped compared to the first quarter.
The banks reported that depositors had sought out better deals on their savings, bumping up banks’ funding costs, while the higher cost of borrowing had depressed the lending market. Analysts expect little to change going into the third quarter.
“For UK domestic banks, we expect the environment which prevailed in Q2 to generally continue in Q3: ongoing mortgage margin pressure and unfavourable deposit mix as households rebalance savings as well as lower levels of loan demand,” analysts at Jefferies said.
Similarly, Benjamin Toms, analyst at Royal Bank of Canada, said “Q3 could be a tough quarter, with deposit migration, spread compression and low mortgage volumes persisting”.
The higher cost of borrowing means lenders will likely have to set aside more in provisions in case more borrowers struggle to pay back loans. Barclays is expected to put aside around £570m, up from £380m last year while Lloyds’ bad loan provision will remain flat at around £660m.
Despite higher costs, the banks are expected to report healthy profits. Analysts expect both Lloyds and Barcalys to deliver a profit of £1.8bn while Natwest is expected to deliver £1.4bn in pre-tax profit.
Looking beyond this year, banks will also be bolstered by the so-called ‘structural hedge‘, when banks invest customer deposits into swaps as a hedge against falling interest rates. These swaps are now yielding significantly more than a few years ago.
“The banks have already guided for further hedge benefit into next year, with Barclays noting expected tailwind in ’24/’25 and Lloyds guiding to a similar (£0.8bn) increase in ’24. With rates higher now than when these guides were last reiterated (Q2), we see potential for further upside from the hedge,” analysts at Jefferies said.