Woodford IM: No eurozone recovery before 2020


The eurozone will not see a recovery before the end of the decade due to failings in the banking sector, says Woodford Investment Management.

Writing in a comment piece last week, Woodford head of investment communication Mitchell Fraser-Jones argues European banks have barely started the process of “loss recognition” following the financial crisis.

Fraser-Jones notes this is unlike their counterparts in the US, which have resumed normal lending activity.

He also raises particular concerns about the UK banking sector.

He says in the period following the financial crisis, banks across regions extended maturity dates on loans rather than recognising their impairment.

They stopped lending as a result, making efforts to boost the real economy through monetary policy fruitless.

Fraser-Jones argues in Europe, loss recognition did not start in earnest until the euro crisis “forced policymakers’ hands”, prompting them to introduce measures to incentivise banks to clean up their balance sheets.

He says: “Our expectation is there won’t be a recovery in the eurozone until the bank loss recognition process nears completion – at the current pace of progress, that suggests another four to five years.”

Neil Woodford has previously said he would not currently invest in the banking sector due to its complexity, although he is currently invested in challenger bank Atom Bank as well as a peer-to-peer lending platform.

At the end of the 1990s almost a third of Woodford’s funds were invested in the sector.

Fraser-Jones says the US banking system has largely completed the process of loss recognition and has begun lending at normal levels again.

This explained why the US Federal Reserve had raised interest rates in December – the first time in almost a decade – believing the mechanism linking the banking system, money supply and inflation had returned.

He says UK banks have “come some way” in the process of loss recognition. The big four (HSBC, Lloyds, Barclays and Royal Bank of Scotland) had loan loss provisions representing 8.6 per cent of peak loan assets.

However, Fraser-Jones points out this was only slightly more than the 8.5 per cent experienced in the early 1990s, when the UK was not in financial crisis, arguing this might be because UK house prices never fully adjusted during the crisis.

He says: “If UK house prices were to just start the process of normalisation towards average (and affordable) valuations, this would create a massive new problem for the UK banks.”

Last week the main US banks posted their Q1 earnings, with many exceeding market expectations, despite being hit by an over exposure to the energy sector.

UK banks are due to start releasing their earning figures next week.