Worst for European Banks is Behind: Strategist

The European Central Bank may have shocked the markets with its prediction that bank losses are likely to increase in the near-term, but other economists believe the worst is behind us, and that governments have the power to force banks to lend.

A broker works as his control screen shows a graph of activity on the French Stock Exchange in Paris.
A broker works as his control screen shows a graph of activity on the French Stock Exchange in Paris.

"Banks are well geared into this recovery ... and the worst is behind us, it’s going to be different this time around," Peter Lenardos from Arden Partners told CNBC on Tuesday.

Banks took losses of approximately $1.3 trillion between 2007 and 2010.

On Monday, the ECB warned that euro zone banks face up to 195 billion euros in a "second wave" of potential loan losses over the next 18 months due to the financial crisis, and revealed it had accelerated purchases of euro zone government bonds. Banking stocks fell on Tuesday.

Which European countries are most jeopardized? “Italy, Greece, Ireland… obviously they all have a lot of pressure on their banking systems,” Lenardos said.

“The governments have committed $1 trillion to this bailout. The price of failure is phenomenal,” Lenardos said. “The governments need to support the euro and the banking system to avoid a default on sovereign debts. They don’t have enough money to bail out the banks again.”

Yet Lenardos claimed there was a silver lining in the cloud of losses: most UK banks have outperformed the market since the beginning of the year. “If you would have been invested in three of the four major UK banks since the beginning of the year, those have outperformed the market,” Lenardos said.

Moreover, the Swedish banking sector has remained robust compared to its neighbors. “Scandinavian banks seem to bee in very good shape,” Lenardos said.

The Risksbank stability report indicated that loan losses in Swedish banks are expected to be lower in the next period, and Swedish markets are functioning well, and its banks are well-capitalized.

Unfreezing Credit Markets

Experts agree that the primary tool to boost European growth is via increased bank lending to companies and individuals. But many banks throughout the EU have ignored government pressure to loosen lending requirements.

Lenardos argues that the UK government has a lot more leverage to force lending than Germany, for example, although more than 30 percent of German banks are state-owned.

“UK government is going to impose lending targets on Lloyds and RBS because their percentage of ownership is so massive,” Lenardos said.

Yet some analysts predict a second wave of loan losses for banks, given the recent ECB report that banks have dramatically increased their holdings in their overnight facility, as well as borrowing from the ECB's marginal lending facility.

There’s a stubborn reluctance to borrow within the corporate sector, Lenardos claimed. “It’s an interesting paradox that there’s no lending occurring yet you have company’s profits improving, balance sheets improving.”

He believes most companies are in a strong position to borrow if they want, except that borrowing is hardly in vogue, claiming that “debt seems to be taboo,” given the precarious state of the recovery.