The global financials sector is undoubtedly one of the best performing sectors in 2021. Moving into 2022, we believe the macro backdrop remains conducive for global financials as the sector is set to benefit from continued economic growth and rising interest rates.
- Ferlyn Tan | Published on 24 Jan 2022
• Economic growth will be the main driver for the different business lines in the financials sector, particularly the banks and insurance companies.
• We believe the prospect of higher interest rates this year will be the biggest catalyst for the major banks across the globe.
• The major banks have also proven to be resilient during market downturns and are likely to remain so despite potential risks from the Omicron variant.
• The global insurance industry is expected to deliver an average growth of about 3.9% in life premium and 3.3% in non-life premium moving into 2022.
• We expect to see uneven performance across the diversified financials moving into 2022.
• Based on our fair PB of 1.3X, investors can expect double-digit upside potential by end-2023. We maintain our star rating for the global financials sector at 3.5 Stars “Attractive”.
The global financials sector was undoubtedly one of the best performing sectors in 2021. As measured by the S&P Global Financials Index, the sector rallied by 26.4% during this period (Chart 1).
Chart 1: Global financials delivered strong returns in 2021
Moving into 2022, we believe that global financials will sustain its uptrend as the sector continues to benefit from economic growth and rising interest rates. As the macro backdrop remains conducive for the global financials at this juncture, we maintain our star ratings for the global financials sector at 3.5 Stars “Attractive”.
Economic recovery into 2022 will drive growth across the financials sector
Two years after the first case of COVID-19, the world is gradually moving towards endemic. Vaccination rates worldwide have been on the rise and we believe this could support governments’ decisions to re-open their borders, a factor that should help to drive global economic growth.
While growth rates in the US and Europe are expected to moderate this year, their economies will likely remain resilient, given the rock-solid household balance sheets in these two regions. Asia is expected to lead global growth in 2022. With vaccination rates picking up across Asia, particularly in Northeast Asia, this would allow for a more sustained recovery of domestic demand.
Meanwhile, China’s growth slowdown has hit levels policymakers can no longer ignore and has signalled clearly in recent months that more easing measures could be implemented to help support the economy. A stabilisation in the world’s second-largest economy will certainly have positive spill-over effects on the rest of the world.
Despite the potential risks due to the Omicron variant, the macroeconomic backdrop remains positive at this point and will be a key driver for the different business lines in the financials sector, particularly the banks and insurance companies.
We expect to see healthy loan growth across the banks as the global economy continues to expand, which should provide support to the banks’ net interest income. Meanwhile, we also expect to see a strong recovery in both life and non-life insurance premiums, supported by a rise in disposable income and a pick-up in global economic activities, such as travel and other forms of consumer spending.
Rising rates will be a major catalyst for the banking industry
Although living with COVID-19 has been a bumpy journey, the economy is recovering from the pandemic. Global banks have had a good year in 2021, during which most major banks registered strong earnings growth on the back of easing loan loss provisions.
Interest rates across the world were slashed to near-zero at the peak of the pandemic, and have since remained at that level. However, pent-up demand and bottlenecks in the global supply chain due to border controls and mobility restrictions have resulted in a broadening of inflationary pressures. Inflation has also been more persistent than expected. In the latest set of data, the US reported a 7.0% annual jump in consumer prices, a figure that exceeded market expectations.
Looking ahead, we believe that inflation is likely to remain at elevated levels and this could force the Fed to kick-start its rate hike cycle in 2022. In fact, as mentioned in our previous article, it was announced during the December 2021 FOMC meeting that the Fed is projecting three rate hikes in 2022 to curb inflation. Other major central banks are also contemplating rate raises. In mid-December, the Bank of England became the first major central bank to raise its benchmark interest rate and the market is forecasting up to four more rate hikes next year.
As net interest margins largely follow the interest rate environment, a Fed rate hike cycle could lead to a rebound in net interest margins. This will benefit the world’s major banks, given that the majority of their profits still depend on net interest income, suggesting that rising rates will likely be a major profit catalyst.
While Omicron remains a concern, the major banks remain well-capitalised and will be able to tide through the bad times in the event that the spread of Omicron worsens, causing a deterioration in asset quality.
Table 1: Strong capital positions of major banks
| Geography | CET1 Ratio | Minimum CET1 ratio | |
| ICBC | China | 12.9% | 9.0% |
| China Construction Bank | China | 13.2% | 9.0% |
| JPMorgan | US | 13.0% | 11.2% |
| Citigroup | US | 12.2% | 10.5% |
| Bank of America | US | 10.6% | 9.5% |
| DBS | Singapore | 14.5% | 9.1% |
| UOB* | Singapore | 12.8% | 9.1% |
| HSBC | HK/UK | 15.9% | 9.2% |
| Royal Bank of Canada | Canada | 13.7% | 9.0% |
| BNP Paribas | France | 13.0% | 9.7% |
| Source: Respective banks’ 1H21, 3Q21 and 4Q21 reports*Post acquisition of Citi’s portfolioData as of January 2022 |
Higher premiums and investment income to support the insurance industry
Besides banks, another important industry within the financials sector is the insurance industry. We believe that insurance demand in both the life & health (L&H) and property & casualty (P&C) business segments will benefit from further economic recovery in 2022.
One silver lining of the COVID-19 pandemic is the significant rise in awareness of life insurance products among consumers. More consumers have grown to become more receptive to the idea of health insurance products and have begun to understand the importance and benefits of having adequate protection against any illnesses, hospitalisation, or death. The demand for property, cars, and travel is also expected to rebound on the back of a continued recovery in 2022, a development that should drive the growth of the P&C insurance premiums.
Overall, the global insurance industry in 2022 is expected to deliver an average growth of about 3.9% in life premiums and 3.3% in non-life premiums (Chart 2). Most of the growth will come from the Asia Pacific region, where most people still remain under-insured.
Chart 2: Global insurance premium outlook for 2022
Besides, insurance companies also derive a significant portion of their income from investment income. As interest rates rise, matured assets can be reinvested at higher rates than before. As such, we expect insurance companies to generate higher net investment income, which will support their overall profitability this year.
Diversified financials: Wealth management and equity capital markets to do well, but debt capital markets may lag behind
The final industry of the financials sector is the diversified financials, which is largely dominated by financial institutions dealing with capital market products. One will typically find companies such as asset management firms, investment banks, brokerages and financial exchanges. Moving into 2022, we expect to see uneven performance across these financial institutions.
Wealth management: Asset and wealth management continues to be the golden egg and we believe that its growth momentum will continue, driven by the increasing wealth of high-net-worth individuals and the mass affluent. Global AUM and revenue are forecasted to grow at a CAGR of 6% till 2025. Just one week ago, Blackrock (NYSE:BLK), the world largest asset manager, announced that its AUM crossed USD 10 trillion in the 4Q21. Based on its 4Q21 earnings call, the management team continues to be optimistic about the inflow of funds for 2022 and beyond.
Chart 3: Growth momentum in global AUM and revenue will continue
Besides, many asset managers are also increasingly investing in technology to improve operational efficiency for cost savings, a factor that will help to mitigate fee compression.
Investment banks: Meanwhile, we believe investment banks face a mixed outlook in 2022. First, we believe fixed income underwriting and markets fee is likely to slow down in 2022. When interest rates were cut to near-zero in 2020, many companies took advantage of the situation which resulted in a surge in new debt issued. However, the value of debt capital market-related deals has fallen by 3.5% in 2021 as new debt issuance starts to normalise (Chart 4). When central banks worldwide start a series of interest rate hikes in 2022, we believe this will slow down debt issuance activity even further and dampen investment banks’ fixed income underwriting fees.
Chart 4: Slowdown in debt capital market activities
We also observed that fixed-income trading revenue across the investment banks have fallen compared to 2020, which seems to suggest that fixed income market activities have slowed down. A sluggish fixed-income trading environment may continue into 2022 as Fed continues to scale back asset purchases and tighten monetary policy. For instance, Wells Fargo (NYSE:WFC) reported lower fixed-income trading revenue in its 4Q21 earnings report and quoted lower trading activity in spread products (a form of taxable bond) as the main driver. JPMorgan (NYSE:JPM) also said that the bank could face tailwinds for its fixed-income trading business in the next few quarters as major central banks tighten monetary policy in 2022.
However, on the brighter side, the investment banks’ equity business may be able to offset the slowdown in fixed income underwriting and trading fees. The equity capital market had a record-breaking year in 2021, during which the number of deals worldwide and the value of IPO proceeds jumped by 65% year-on-year despite increased regulatory scrutiny on SPACs and Chinese technology firms (Chart 5). Based on the pipeline, global IPO activities in 2022 will continue to be supported by SPAC listings. According to EY, we can also expect to see more listings from the technology and industrial sector.
Chart 5: Record-breaking year for the global IPO market
On top of that, the management teams of various investment banks are also expecting an upbeat outlook for the M&A scene in 2022. In a separate KPMG survey, more than half of the executives interviewed mentioned that they will be looking to acquire companies in 2022 to remain competitive. According to Goldman Sachs (NYSE:GS), the CEO shared during its 4Q21 earnings call that he sees good tailwinds for continued M&A activity based on discussions with CEOs as well as the bank’s M&A backlog.
Therefore, we believe that activities in the equity markets are likely to remain strong and we expect to see growth in equity investment banking and trading fees, which will help to offset the slowdown in fixed income underwriting and trading fees.
Global financials outlook for 2022
Overall, we believe that the global economic outlook is constructive for further growth and we do expect to see a continuous uptrend in the financials sector. Based on our fair PB of 1.3X, investors can expect double-digit upside potential by the end-2023 (Table 2). We maintain our star ratings for the global financials sector at 3.5 Stars “Attractive”. On top of that, investors can also expect an average dividend yield of 2.6% per annum after taking into account the dividend withholding tax.
Table 2: Global financials valuations table
| FY2020 | FY2021 | FY2022 | FY2023 | |
| PE ratio | 19.9 | 12.4 | 12.1 | 11.0 |
| Earnings growth | -24.5% | 60.9% | 2.3% | 9.7% |
| EPS | 86.6 | 139.4 | 142.6 | 156.4 |
| PB ratio | 1.4 | 1.3 | 1.2 | 1.2 |
| Book value per share | 1,305.6 | 1,356.1 | 1,432.5 | 1,528.0 |
| Projected fair price (based on 1.3X fair PB ratio) | 1,924.3 | |||
| Potential upside | 11.7% | |||
| Source: Bloomberg Finance L.P., iFAST estimatesData as of 24 January 2022 |
Table 3: Recommended products for global financials
| Unit Trust | ETF | |
| Global Financials | Blackrock World Financials A2 USD | iShares Global Financials ETF (NYSE:IXG) |
Chart 6: SGFS index price-to-book ratio over the last two decades
