A turbulent first quarter could be as good as it gets for European banks

The first quarter will be messy for Europe’s banks, but with the risk of an economic downturn, it may only get more messy.

In quarterly results this week, Deutsche Bank,

Barclays,

BCS 0.13%

UBS and Credit Suisse are likely to paint a mixed picture of the European banking sector. While the Russian invasion of Ukraine put a brake on the recent investment banking boom, it also led to market volatility, especially in commodities and interest rate expectations. It will have helped some traders increase their revenue, but it will also come with potentially higher capital requirements and risks, such as mark-to-market write-downs or counterparty losses.

Another major item in the mix will be loan losses. Most lenders still have pandemic-related provisions that they can reverse. However, many will also have to post depreciation against their Russian business. Raiffeisen Bank and Unicredit have the largest total exposure, but many others are involved, including Deutsche Bank, Intesa Sanpaolo,

UBS and BNP Paribas.

Credit Suisse announced a $ 212 million hit for Russian assets last week as part of a broader profit warning related to its own idiosyncratic legal problems.

It is difficult for outsiders to assess the economic consequences of the banks’ liquidation of Russian exposure, which spans different asset classes. An example: Société Générale had around € 18 billion, equivalent to $ 19.5 billion, in total Russian exposure, but posted a write-down of € 3.1 billion when it announced its exit. The process is complicated and will take time: “A bank is not a hot dog stand that can be shut down within a week,” said Johann Strobl, CEO of Raiffeisen Bank in an analyst call last month.

All the moving parts provide an unpredictable season of results. What seems safer is the darker view from here. European Central Bank Governor Christine Lagarde warned this month that “declining risks to growth prospects have increased significantly as a result of the war in Ukraine.” The prospect of embargoes on Russian energy supplies has exacerbated tight commodity markets and pushed up oil and gas benchmarks. This has fueled broader cost inflation and intensified the cost of living in the region. Banks are among the first in the line to feel the impact of such macroeconomic forces.

The ECB may be forced to follow the US Federal Reserve in raising interest rates despite weaker growth prospects, which could potentially flood the benefit of economic reopening following the pandemic. In a worst-case scenario, it could all run into a double-dip downturn – an unpleasant echo of when the eurozone crisis earlier this century arrived just in time to overwhelm any prospect of a European recovery from the global financial crisis.

Some European lenders are less exposed to Europe: Barclays has a large US credit business, UBS ‘clientele of global billionaires may hover over the battle, and the prospects for HSBC and Standard Chartered are more dependent on their significant Hong Kong companies. There was more spread than usual in US bank results for the first quarter, and the same may be true for European lenders.

One argument for owning European bank shares right now is payouts: Capital buffers built through the pandemic caused many investors to expect large cash returns this year. What managers choose to say about dividends and buybacks will be an important test of not only these expectations, but also of how banks themselves see the outlook for economies overshadowed by war.

Write to Rochelle Toplensky at rochelle.toplensky@wsj.com

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