The banking industry faces several challenges due to recent economic, geopolitical and regulatory developments. KPMG has identified the top 10 issues facing banks in 2022 and beyond, and in this article we examine the topic of profitability.
Revenue and Growth: The engine is tuned up
Banks fared extraordinarily well through the pandemic years of 2020 and 2021. Early fears of credit performance deteriorating proved to be incorrect, digital engagement and behaviors received a pandemic boost as consumers accelerated their transition away from cash and branches, and many banks earned a “trust dividend” as they offered forbearance terms and participated in the distribution of government stimulus and relief payments and loans.
Heading into 2022, there’s cause for continued optimism: loan growth has emerged in recent quarters, forecast rate hikes should lift net interest margin (NIM) from recent lows, and credit quality remains strong. Against this backdrop, KPMG’s 2021 CEO Survey revealed that, over the next three years, a majority of CEOs at U.S. banks expect earnings growth of as much as 2.5 percent per year, and a third said they expected even better earnings growth – as much as 5 percent. Almost 90 percent said they have a positive outlook on the overall national economy.
But near-term optimism, while welcome, comes alongside significant questions and challenges. Growth in total banking sector revenue, after consistently outpacing GDP growth during the decades-long economic period that began after WWII, dramatically slowed during the Great Recession of 2009–2010—and has not recovered. Revenue growth since 2010 has hovered around or slightly below 2 percent; CEOs’ expectations for 2.5 percent growth going forward are an improvement, but remain a far cry from the 7-plus percent rates of the ‘90s and ‘00s, let alone the prior decades of double-digit growth. And while higher interest rates should have a positive impact on NIM, the accelerating economy will bring new challenges – higher rates are likely to reduce the stickiness of core deposits, and inflationary pressure on wages will challenge recent efficiency improvements.
Growth expectations over the next three years
of CEOs are expecting their company earnings to grow by as much as 2.5% anually
are expecting earnings growth as much as 5%
A core challenge for banks is that the banking market is not monolithic. Different markets, at the state, county, and MSA level, offer very different prospects for growth and profitability. Similarly, different products and services are at very different stages of maturity: For example, traditional “plain vanilla” spread-financing products may offer modest prospects for growth, while innovative new payments and treasury-management services, Banking as a Service value propositions, and emerging financing products (venture finance, clean energy finance, etc.) may enjoy high margins and/or very rapid growth.
So, are recent growth challenges cyclical, driven by persistent (but ultimately unsustainable) low interest rates and regulatory pressure on fees? Is the industry on the precipice of a new boom in growth and returns, driven by digital and fintech innovation, increased demand for corporate and infrastructure financing, and the emergence of new product and service sets in payments and treasury management? Or are recent challenges more secular in nature – the mark of a maturing industry with fragmented competitors and commoditized products, and an imperative to reduce cost, simplify, reduce risk profile. and emphasize capital return to shareholders?
There won’t be a single answer for the industry (or even for a single bank). Winning institutions will craft strategies based on a foundational understanding of their capabilities and infrastructure, the markets they participate in, and the customer segments they serve. Successful execution will require managing complex business portfolios with a balance of innovation growth “bets” and more stable, utility-like activities.