Santander: Disappointing Data From Bank Of Spain

| About: Banco Santander (SAN)

Summary

Bank of Spain published aggregate results for the Spanish banking sector.

The data was weak across the board.

Total loans decreased by 4.1% y/y despite a recovering macro.

We believe there is more downside than upside risk to Santander’s Q3 numbers.

A weak set of numbers

The latest data from Bank of Spain was weak across the board. Total sector loans decreased by 0.7% m/m and 4.1% y/y in August.

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Source: Bloomberg, Bank of Spain

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Source: Bank of Spain

The loan book contraction was primarily driven by mortgages (-3.6% y/y) and corporate loans (-4.9% y/y).

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Source: Bloomberg, Bank of Spain

Loan dynamics actually came as a surprise to the market given a recovering macro in Spain.

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Source: Bloomberg, Bank of Spain

The biggest negative surprise, in our view, came from the sector's lending rates with the sharpest fall seen in Corporates ('lending over EUR1mn'). SME lending rates were down 33bps m/m and 76bps y/y. Consumer rates were up on a monthly basis, but were 55bps down y/y.

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Source: Bloomberg, Bank of Spain

One can argue that Spain's protracted political uncertainty has had a negative impact on the sector's loan growth. That being said, we believe the Spanish banking sector still suffers from the deleveraging trends.

Implications for Santander

Santander (NYSE:SAN) is set to publish its 3Q16 results on 26 October.

A zero-to-negative interest rate environment and weak loan dynamics are still the key issues for Santander Spain. Santander has recently updated its strategy. The key takeaway from the update was the lower guidance on the bank's RoTE targets. The new guidance was largely attributed to a lower-for-longer interest rate scenario and revenue headwinds in SAN's key markets - Spain and the United Kingdom.

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Source: Company data, Deutsche Bank Research

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Source: Company data

With the latest data from Bank of Spain being so weak, we believe there is more downside than upside risk to Santander's Q3 numbers. The chart below shows that, while there is limited room for decreasing deposit costs, there should still be pressure on loan yields due to falling lending rates and the credit portfolio contraction. The numbers from Bank of Spain suggest that Santander's net interest margin will deteriorate from here.

Source: Company data

Valuation

Santander trades at a slight discount to its peers. That being said, we still see downside risks to the earnings estimates, given revenue headwinds in Spain and the UK. The cut in the UK base rate and potential for a further reduction will put more pressure on Santander UK's net interest income, while asset quality will likely deteriorate from here.

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Source: Bloomberg, Renaissance Research

Bottom line: With the latest data from Bank of Spain being so weak, we believe there is more downside than upside risk to Santander's Q3 numbers. As such, we would remain cautious on the stock.

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