Polar Capital highlights opportunities in financials

John Yakas, financials fund manager at Polar Capital, gives his view on the recent market movement in the sector.

Following a weak start to the year, global financials recovered sharply in March recouping some of the previous months’ losses.

Gains were led by emerging market financials, but also strong gains in the US as concerns on the global economic outlook eased with leading indicators recovering from February lows led by developed markets.

A clear trend in both Europe and the US has been the ability for challenger/regional banks and specialist financials to sustain relatively strong operating trends, in part a consequence of the market dislocation following the crisis as incumbents exited niche areas and focused on strengthening balance sheets.

Pressure from regulators for banks to clean up balance sheets has also provided opportunities for debt purchasers to buy NPLs at attractive prices.

The UK government’s focus on buy-to-let (BTL) lending a profitable area of growth for challenger banks, has led to a series of measures being introduced to cool the sector and in March the PRA released a consultation paper on minimum underwriting standards for BTL loans.

Whilst there has been evidence of certain smaller players in the BTL segment loosening credit criteria, the proposed PRA standards are already observed by the challenger banks and comments on loan applications at the end of 1Q16 suggest sustained demand (which is largely driven by re-mortgaging) beyond the April deadline for the change in stamp duty.

Sentiment on the sector remains affected by fluctuations in macroeconomic assumptions and whilst some stability has returned this month, there remains a disconnect between the level of concern and fundamentals.

The sector continues to offer opportunities for growth (either in emerging markets or more specialist developed market areas) and the strengthening of capital combined with a recovery in profitability in a low growth environment leaves both US and European banks well placed to sustain a high level of capital return.

Specific risks (such as energy exposure) will provide a headwind to earnings for certain banks, rather than a systemic issue, whilst valuations are often continuing to price in more of a crisis scenario.

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