Banking industry business models look vulnerable and market valuations remain weak. But a wave of takeovers is nowhere in sight, even for Credit Suisse.

Slowing economies and geopolitical disruption have played havoc with a large number of finance industry assumptions this year. Those factors have also ended a decade of relative stability.

But one thing still holds true, at least according to McKinsey's newest «Global Banking Annual Review». Bank market valuations are still depressed, the key reason being the very sobering fact that more than half of banks worldwide earn less than their cost of equity.

Credit Suisse in Play

It should be of little comfort that Credit Suisse is by no means alone in that regard. To help, the study's authors recommend that banks do their best to keep their costs under control, clean up their balance sheets and build a tech infrastructure that can withstand cyber-attacks.

The current negative environment also makes any speculation about a takeover of Switzerland's crisis-ridden second-largest bank all the more relative. A potential takeover simply lengthens the long list of homemade problems many banks already face.

Despite that, the number of names being dropped as potential Credit Suisse acquirers comes and goes like a merry-go-round, with BNP Paribas and Deutsche Bank being frequently mentioned right now. Others speculate about a Swiss solution involving Julius Baer. Even though it is significantly smaller, some believe a potential reverse takeover could be in the offing, at least that is what Swiss weekend newspaper «Sonntagszeitung» maintained (paywall, German only) this past weekend.

No Growth Prospects

What often gets forgotten in the speculation is that the banking sector is not only fighting its own inbuilt issues but that it is significantly undervalued compared to other industry sectors. The price-earnings ratio in the banking industry is at 13, well below the average ratio of 20 seen in other sectors.

Only half of the discount is due to the low rate of profitability in banking. The other half reflects a lack of investor confidence in any kind of future growth prospects.

Some Optimism

However, there is some light at the end of the tunnel, with this year being the most profitable for banks since 2007. McKinsey is also predicting better business developments for the industry despite sluggish economic developments, which should benefit investors.

Still, a sustained recession could prompt banking return on equity rates to fall to 7 percent by 2026, with European institutes even seeing them drop below 6 percent.

Capital Buffer

The consultancy sees the industry's return on equity for this year lying at 11.5-12.5 percent, a level it has not seen since the financial crisis.

Capital buffers also look very comfortable, with the sector's Tier 1 ratio worldwide being between 14 and 15 percent - a record high.

Europe Lags

The strong performance in 2022 is due to higher interest rates. Many central banks have tightened monetary policy and prompted a pivot in interest rates after years of extremely low or even negative rates.

But even if higher returns on equity are buoying the sector, European banks will continue to lag those in the US and Asia.

Managing Assets

All banking segments saw higher earnings this year, apart from the capital market and investment banking segments. Wealth management fared best of all, with growth doubling to 8 percent.

Global institutional revenues are expected to rise by $345 billion dollars to $6.5 trillion, with about 60 percent of the improvement coming from higher margins.

Heterogenous Developments

Profitability is seen increasing as margins continue to rise, benefiting from further interest rate increases. But this temporary impact will be overshadowed by slower economic growth in the long term, the study's authors say.

Divergences between individual institutional performance will increase depending on each institute's funding profile, geographic location and business model. Growth is likely to be concentrated in the emerging economies of Asia, in China, Latin America and the US.

Sustainable Opportunities

Sustainable investment will be a business opportunity for many banks. The McKinsey analysts believe that there is annual direct financing potential of about $820 billion up to 2030.

Other finance opportunities will total $1.5 trillion in the same timeframe. And here European banks are likely to be in the mix when it comes to those opportunities.