- One of the largest retail banking businesses in France, accounting for almost a third of group revenue.
- A weak macro environment in France points to muted loan demand ahead combined with rising loan loss provisions.
- The repricing of recession fears will affect banks the most, as low loan volumes and sharply lower rates hit earnings
Following our recent note related to the looming tariff risks 2 April – binary event risk for EU lines we draw attention to European Banks, the best performing sector YtD posting a +26% YtD return vs. +8% for the STOXX, primarily driven by expectations of higher-for-longer yields and less pessimistic growth prospects on the back of elevated fiscal spending in Europe. Although the fiscal push in Europe, supported by higher rates, is unlikely to stop anytime soon, we see the recent performance of European banks broadly reflecting this benefit, and with positioning both in the sector and the EU currently at overextended levels, we now see asymmetric risks to the downside.
Another supportive factor for positioning to the downside is the intensifying tariff war, which we anticipate could be fiercer with regards to Europe, due to disagreements around the Ukrainian peace deal and less willingness from Europe to cooperate with the US. Despite the market pricing in a 30% probability of a recession, Banks are at decade highs and given how erratic the markets have behaved recently on tariff headlines (SXAP -11% since 26 Feb) we anticipate that the market will likely revise up its recession expectations should the tarrif war further intensify. The probabilities of a rate cut at the ECB’s next meeting in April has risen to almost 80% (c.60% after the March meeting) following the latest auto tariff news, reflecting anticipation of deeper rate cuts likely required to counter the tariff hit.
Looking at single stock names, Credit Agricole’s strong +29% YtD performance has been supported by the 17% revenue increase in 4Q and an 8% revenue beat vs. consensus, driven by the asset gathering division which has benefited from strong equity markets, begging the question as to whether this performance can be maintained in a scenario of a sharper recessionary downturn. We believe that France, as a major exporter of agricultural goods, luxury products, and industrial equipment to the U.S., is likely to suffer disproportionately from targeted tariffs and, although the current saving rate remains high at 17%, bankruptcies have been increasing, mostly impacting SMEs, painting a rather bleak picture in terms of the French macro environment going forward. This has also been reflected in an elevated cost of risk in the latest 4Q results, which rose to 40bp of loans versus c.30bp in previous quarters. Despite the strong revenue beat, expenses missed estimates by 3%, supporting the drop in its cost-to-income ratio to 54% and, although the consensus estimate of 55-56% for 2025/26 could look high in the current conditions, we would expect the benefit from higher equity prices to evaporate in a risk-off scenario further exacerbated by sharply less loan activity and potentially significantly lower yields.
With both price and price-to-book valuation at 5-year highs we propose Long Jun25 15.5 Puts at a net cost of 2.6% of underlying (Spot ref: 17.1, Fut. Ref:16.2).