Will Russian Exposure Cut Add to Banking Woes? - Analyst Blog

Operations on global platforms strengthen a company's revenue stream, facilitating it to capitalize on locational advantages and resources and finally broaden its customer base. However, at the same time, it is a known fact that an unfavorable situation in any of the foreign platforms may hurt profitability of the firm.  

The overall U.S. stock market was volatile in the first quarter, though major indexes showed strength. Apart from the Federal Reserve's tapering of fiscal stimulus and sluggish economic activities in emerging markets, the volatility stemmed from the geopolitical tension that took place when Russian troops advanced towards Ukraine's Crimean Peninsula.

What Made Matters Worse?

In order to end the Russian military intrusion in Crimea and bring stability in eastern Ukraine, the US and EU enforced sanctions on Russia. In compliance with such U.S. sanctions, three major banking giants – JPMorgan Chase & Co. JPM, Bank of America Corp. BAC and Citigroup Inc. C – lowered their exposure to Russia in the first quarter of the year.

According to their latest filings, Citigroup's exposure in Russia fell 8.7 % to $9.4 billion, while Bank of America reported a 22% decline in its exposure, largely in the form of loans to Russian energy companies and banks. Similarly, JPMorgan reduced its exposure in Russia by 13% to $4.7 billion.

Notably, JPMorgan recently blocked money transfer from a Russian embassy to an insurance agency. The required amount was to be transferred from a Russian embassy in Kazakhstan to Russian insurance firm Sogaz, which is partially owned by Abros. Abros is a subsidiary of Bank Rossiya, which has been blacklisted by the U.S. government. This prompted JPMorgan to stop the remittance.

Among others, in Dec 2013, Morgan Stanley MS signed a deal with Russia-based Rosneft Oil Company's wholly owned subsidiary to vend Morgan Stanley's Global Oil Merchanting unit. The finalization of the deal, which is yet to close, may be affected if U.S. imposes sanctions on Russia's core sector – Oil & Gas.

Earnings Reflect Sector Headwinds

Nearly 68.4% of the total companies in the Finance sector have reported first-quarter results so far with an earnings beat ratio (percentage of companies coming out with positive surprises) of 66.7% and revenue beat ratio of 59.3%.

Notably, the Major Banks are expected to report 13.6% earnings decline in the quarter and earnings of Banks & Thrifts are expected to be down 6.6% year over year.

Bottom Line

The banking industry is encountering a setback owing to several issues. These include a slower pace of consumer and corporate activities, still dismal mortgage market and mounting legal costs. Further, the banks are witnessing weak loan growth and continuous pressure on net interest margin amid a persistently low interest rate environment.

The stringent regulatory landscape is another burden on the financials of banks. We believe the latest revelation of reduction in exposure by the sector leaders will further add to the woes, as it will put some pressure on their top line.

Notably, on Friday, President Obama and German Chancellor Angela Merkel indicated at imposing additional sanctions against Russia if it intervenes in Ukraine's elections scheduled on May 25. We suggest additional sanctions by the U.S would further add to the concerns of banks with exposure in Russia.