European Bank Stocks Give Up Early Gains

European bank shares lost early gains on Thursday, as investors shrugged off some positive stimulus measures from the European Central Bank and continued to view the sector as one of the biggest losers from recent rounds of monetary action.

Bank shares had initially soared after the ECB announced stimulus measures that included cheaper funding for the sector and a less-than-expected cut in interest rates. But stocks fell later in the day as investors reacted to less positive moves by the ECB, which also lowered its deposit facility rate to minus 0.4% from minus 0.3%, making it even more expensive for banks to hold reserves with the central bank

Investors are concerned about the effect of negative interest rates on banks' earnings, as lenders may struggle to pass on the cost of having to pay to deposit cash to their retail customers. But there is a wider concern that central banks' efforts to stimulate the eurozone's economy are increasingly ineffective.

What ECB President Mario Draghi presented Thursday "was literally the last salvo," says Chirantan Barua, an analyst at Bernstein Research. "Now there is nothing that he can do."

The Euro Stoxx Banks Index, which includes 30 lenders in the common currency area, rose 0.9% after an initial gain of about 7%. That still outperformed the wider index, which was down 1.4%. Many analysts had expected the news for banks could have been even worse.

Meanwhile, the euro rose and European stocks turned lower, reversing earlier moves. That marked a setback for the ECB, given a lower euro is one of its chief tools for driving up ultralow inflation.

Bank shares gained after the ECB said it would offer cheaper funds to eurozone banks through an expansion of lending rounds known as Targeted Long-Term Refinancing Operations or TLTROs.

Although the banking system overall has more liquidity than it actually needs, lenders in Europe's periphery, such as in Greece, Spain and Portugal, are still net borrowers from the ECB and will be relieved by these measures.

Banks in these countries kept their gains through the day. Greek lenders Eurobank Ergasias SA and Alpha Bank AE rose about 10% and most Italian and Spanish banks reaped hefty gains.

Bank shares in core eurozone countries saw only modest gains, with the likes of Deutsche Bank AG, Commerzbank AG and Socié té Gé né rale SA all edging up by less than 1%.

Investors have for some time concluded that unconventional central bank stimulus is bad for banks.

Lower interest rates coupled with the ECB's massive bond-buying program have pushed down borrowing costs across the continent, hitting profits as the interest that banks receive on products such as mortgages also declines.

Mr. Draghi said Thursday that negative rates weren't expected to go lower. But Mr. Draghi also said that if borrowing costs did fall much further into negative territory, banks would take a hit.

"Does it mean we can go as negative as we want without any consequences for the banking sector? The answer is no," he said.

Bond-buying programs have also increased the size of reserves the sector keeps with central banks, meaning an ever-larger share of their assets are losing value. On Thursday, the ECB announced an expansion of its bond buying program, which will now amount to €80 billion a month of purchases instead of €60 billion.

Negative rates could have different effects in different parts of the world.

Central banks in Denmark, Sweden and Switzerland have also moved rates into negative territory, but their banks have largely offset lost revenue by raising the price of mortgages and making customers pay fees for products. Banks have benefited as fewer customers default on their loans.

Net interest income—the difference between the rates a bank borrows and lends—is down mid-single digits for banks in the three countries, according to Morgan Stanley.

But Nordic banks benefit from tame competition and a healthy demand for mortgages, so are able to squeeze more cash from their customers, said Barrington Pitt Miller, a bank analyst at Janus Capital Group.

The picture is less rosy for eurozone lenders, especially in Southern Europe where the pain is expected to trickle through more quickly. Italy and Spain have a plethora of banks, many of whom are already considered chronically unprofitable by investors. A struggle to cut costs has also hampered many European banks' ability to weather lower returns caused by negative rates.

Write to Jon Sindreu at [e-mail] and Max Colchester at [e-mail]

(END) Dow Jones Newswires

March 10, 2016 15:05 ET (20:05 GMT)

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