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HSBC flags pain to come

Investors have been warned of significant charges during the final quarter "and subsequent periods”
October 28, 2019

With its global reach, enormous asset base and divisional spread, HSBC (HSBA) holds a few trump cards. But this week it became the first of the large UK-listed banks to fold its hand, citing economic challenges and a “softer” revenue outlook as it warned investors that an 11 per cent targeted return on tangible equity in 2020 was slipping out of reach.

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The revelation, which accompanied a poor set of third-quarter results, wiped 4 per cent from the lender’s share price on the morning of the announcement. Although performance in protest-hit Hong Kong was described as “resilient”, and contributed to a 4 per cent rise in third-quarter pre-tax profits in Asia, other regions struggled. On an adjusted and reported basis, earnings fell in the North America and Latin America businesses, both year on year and quarter on quarter. 

Europe fared even worse, and swung to a statutory loss of $424m (£330m) for the period, compared with a $634m profit in the third quarter of 2018. Here, corporate, commercial and unsecured retail lending were all cited as reasons for a 139 per cent jump to $2bn in group-wide expected credit losses for the year to date.

While capital levels have held firm, loans and advances rose and reported operating expenses fell slightly, rising funding costs meant the net interest margin declined a further seven basis points to 1.59 per cent.

Although the results fell short of analyst expectations, the challenges are not new to investors. However, HSBC’s proposed solutions spell pain in the coming quarters. Noel Quinn – newly referred to as ‘group chief executive’ despite having replaced John Flint on an interim basis in August – said the third-quarter performance was “not acceptable”. In a sign that he will walk a harder line than his predecessor, Mr Quinn has pledged to move capital from lower- to higher-return businesses.

That looks set to add further complexity to the group’s ongoing restructuring, and may result in “significant charges” from the fourth quarter onwards. The overview is a far cry from June 2018, when the group said it was time “to get back into growth mode” and promised a “return to value creation”.

Since then, external conditions have deteriorated, which HSBC blames on lower interest rates, reduced capital markets activity and “wealth and insurance headwinds”. However, the lender now believes that underperformance has been exacerbated by having placed “too much capital” in continental Europe and the non-ringfenced bank.

The latter division, which caters to the group’s corporate and investment banking clients in the UK, accounted for 23 per cent of HSBC’s average interest-earning assets in the quarter, and just 7 per cent of net interest income. By comparison, commercial and retail banking operations contributed 19 per cent of group-wide net interest income, with just 15 per cent of the assets, all of which helps to explain why HSBC has doubled down on the UK mortgage market despite the competitive pressures.

Returns from US activities – where high operating costs pegged adjusted pre-tax profits to just $121m, down from $228m in the three months to June – were also described as “insufficient”. Both the US retail and investment banking divisions were singled out for failing to deliver “acceptable” profitability, and look set to be cut back as part of a group-wide organisational “remodelling”.