Responding to the New Reality in Banking

The world has changed significantly over the past few months.
A regional war with global ramifications, severe climate events,
a lingering pandemic, and rising geopolitical tensions–the likes
of which have arguably not been seen in decades–have raised
anxieties and upended any sense of true economic stability.

In the banking industry, key drivers of
performance have shifted significantly. The
alarming inflation that began to take hold
nearly two years ago is still rampant, with
rates in the high single digits on both sides
of the Atlantic.While some causes of this
inflation are transitory, others – including
structural economic changes such as a
decrease in globalization – will have more
staying power. At the same time, central banks
have taken a tough stance. The US Federal
Reserve has steadfastly raised interest rates,
now at ~3.25%. The European Central Bank
has closely followed, raising rates by 75 basis
points with a medium-term target of 2%.
In Asia-Pacific, interest rate growth has on
average been slower.’
Why is this New Reality so central to
C-suite conversations? First, many financial
institutions (FIs) are in uncharted territory. A

large number of leadership teams have never
faced such market dynamics and do not have
a clear map for how to navigate them. (See
Exhibit 1). Similarly, front-line bankers are
being faced with the challenge of managing
portfolios for worried clients, both digitally
and directly, and are having conversations on
topics they’ve never covered before.
Nonetheless, there is ample opportunity for
players who are ready to seize the moment.
In this second paper on the New Reality in
in Banking ( June 2022), we use advanced
analytics to explore how the performance of
FIs—along with their messages to clients—
have changed in recent months. The data
we gathered from the largest banks across
the globe, including input from hundreds of
earnings reports, have provided a window
into who is best weathering these choppy
seas—and more importantly, why.

Exhibit 1: Factors leading to the new reality for banks
Reliable, low

Inflation

Unpredictable and higher

Stable

Interest rates

Rising

Relatively stable growth

Economic uncertainty

Unpredictable growth / risk

Globalization

Global decoupling

Competing centres of gravity

Offline world

Digital

Digital-first experience

Low business impact

Sustainability/Climate

Massive impact on banks’ role

Bank & public markets

Sources of capital

Increasingly non-bank private

Banks as intermediaries

DeFi

Threat of disintermediation

Fls “Stay in their lanes”

Fluidity of Industry Roles

Blurring of industry lines

Economic

Geopolitical
Customer

Competitive

Today

Source: BCG expertise and analysis

Additional
acceleration
in H1 2022
Copyright © 2022 by Boston Consulting Group. All rights reserved.

Recent history

Responding to the New Reality in Banking | 3

Profitability Drivers are Radically Shifting
was less acute, with provisions roughly doubling
from 2019 to 2020 and normalizing from 2021
onward—creating an impediment to profitability
in the first half of 2022. Looking ahead, we expect
higher provisions (as the increasing Stage 2 stock of
some European banks indicates), although banks
are reasonably well-capitalized and well-positioned
to defend their balance sheets. Meanwhile, in
Asia-Pacific the changes in loan-loss provisions
are generally less pronounced across the region,
although differences exist between countries.

Despite the recent turbulence, there have been
bright spots for the profitability of major players.
Compared to pre-pandemic (2019) levels, profits
have grown for many banks across regions. (See
Exhibit 2). Yet the top-line factors that drove
profitability from 2019 to 2021 have inverted
in 2022, as fee-income pipelines have dried
up while inflation-driven rate increases have
boosted net interest income (NII). We believe
the changes in fee income, driven primarily by
shifts in capital markets, are temporary given
where we are in the economic cycle. increases in
NII will hold on and continue to be impactful in
the New Reality for global banks increases in NII
will hold on and continue to be impactful in the
New Reality for global banks.

On cost performance, we see similar recent themes
across Europe and North America, with inflationary
pressure starting to creep in on key spending
items—particularly compensation expenses to
attract and retain top talent. The regional starting
points are, however, markedly different. European
banks are coming out of a long period of cost
containment, while North American FIs have seen
consistent increases in both compensation and noncompensation expenses since 2019, owing partly
to persistent inflationary pressures. Such pressures
have been lighter in Asia-Pacific.

The evolution in loan-loss provisions has been
dramatic in North America, where banks
with well-protected balance sheets took a
conservative approach in 2020, increasing
annual levels roughly threefold from 2019.
They later began to release provisions, a boon
to profitability through 2021 that normalized
halfway through 2022. In Europe, the trend

Exhibit 2: Bank profit drivers reversing course in the new reality
PAST

FUTURE

NAMR

Europe

Billions ($)

Pandemic

New reality

+14.7%
12.5

4.1

10.2

9.4

16.8

11.6

APAC

6.9

3.3
122.0

-20.7%
–

+37.2%
5.3

5.4

28.1

30.2

21.4

13.5

14.8

100.0

16.2

1.5

21.4

4.1

137.2

108.8

+10.8%

Allll Banks
Regions

4.9

3.0

114.7

100.0

0.3

3.7

+8.9%
1.4

8.2

7.4

3.4

5.0

0.4

3.6
120.7

110.8

100.0

-5.7%

+23.1%
0.4

1.3

15.8

14.8

12.4

9.2

5.9

1.2

11.0

1.3

123.1

100.0

2019 Pre-tax
Profit

Indexed with 2019 Pre-tax Profit

7.4%

NII

Fees

Other

Top line &
go-to-market

1. Net interest income
2. Other income
3. Loan-loss provisionss
Source: BCG expertise and analysis

LLP

Risk &
capital

Opex

Ops

2021 Pre-tax
Profit

116.0

NII1

Fees

Other2

Top line &
go-to-market

LLP3

Risk &
capital

Opex

H’ Pre-tax Profit
(Annualized)

Copyright © 2022 by Boston Consulting Group. All rights reserved.

Old
world

Ops

Responding to the New Reality in Banking | 4

Messages to Shareholders
are Evolving
Although fluctuations in financial results paint a clear picture of
recent performance, the ways in which banks communicate on
earnings calls are more telling regarding how they plan to react to
current circumstances—and regarding which topics are currently
top of mind. Two, in particular, are receiving a great deal of attention
as banks signal changes in the macro environment and discuss the
implications for revenues and costs.
The first topic, of course, is inflation (a threefold increase versus
2021). The second is interest rates (doubled versus 2021). Moreover,
the topic of market volatility is receiving as much focus as it did
during the first phase of the Covid-19 crisis. (See Exhibit 3).
The urgency of climate-related issues has increased
vastly since 2019. Driven by regulatory pushes (such as
ECB climate stress tests), bank commitments (such as
science-based targets), and direct investor pressures,
climate change has become a staple of most banks’
C-suite agendas and client communications. In the New
Reality, it’s “put up or shut up” time on green financing
and achieving Net-Zero carbon emissions by 2050.
Needless to say, digital transformation continues to be
top of mind. Most banks are continuing their digital
journeys, which underwent rapid acceleration during
the lockdown-related shift to remote operating models.

Given no viable alternative, virtually all banks made the
compulsory decision to digitize both core processes and
client interactions to the greatest extent feasible.
Finally, in terms of go-to-market, pricing is becoming
increasingly critical. In this New Reality, banks are
seeking to maximize gains from growing margins,
while preserving volumes and customer satisfaction
in a rising-interest-rate market. Also, many players
have signaled the rising need to protect fee income, for
example through optimized bundling in daily banking,
or via greater vigilance in fee discounting for SMEs.

Exhibit 3: Inflation and climate are increasingly top of mind for banks
Increase vs. 2019

Inflation

Interest Rates
Climate
Market Uncertainty
Digital2
Cost Base
Pricing
Client-facing3

2019

2020

2021

x3
x5
x2

Copyright © 2022 by Boston Consulting Group. All rights reserved.

Total mentions in earnings calls by topic1

H1 2022

1. Total mentions is measured as average percentage of sentences about a topic per earnings call transcript
2. Digitization & AI
3. Sales Force and Client Relationships
Source: NetBase Quid; BCG Center for Growth & Innovation Analytics
Responding to the New Reality in Banking | 5

A New Performance Story
is Unfolding
Pretax return on equity (ROE) for North
American banks dropped from an average
of ~17% in 2021 to ~14% in the first half of
2022, driven in part by the normalization of
provisions. The modest increase in NII driven
by higher interest rates could not overcome
declines elsewhere.

European players fared reasonably well in this
time frame, with pretax ROE modestly improving
from ~10% to ~11%. (See Exhibit 4). That said, the
ongoing war in Ukraine, energy supply issues, the
overall impact of rates, as well as inflation and
worries over a potential global recession will likely
impact performance in upcoming quarters.

Segment exposure played a considerable role.
For example, Tier 1 US financial institutions
with bulge-bracket investment banking arms
– including JPMorgan Chase & Co., Bank of
America Corp., Citibank, Goldman Sachs,
and Morgan Stanley – have, on average, seen
pre–tax net income return to pre-pandemic
levels, while other North-American players
have continued to enjoy strong returns, roughly
~15% higher than pre-pandemic levels.

Also worth highlighting is the significant
difference between top-performing and lowperforming FIs. Across regions, there was a wide
gap between the top three performers and the
bottom three performers during the first half of
2022. A key takeaway is that even in times of high
uncertainty, pre-tax ROEs in the range of 15% to
20% are achievable. Some players are showing
that high ambitions are reachable with a bold
strategic agenda and effective execution.

Copyright © 2022 by Boston Consulting Group. All rights reserved.

Exhibit 4: North American banks more profitable, but with wider swings during and post-pandemic

Source: BCG expertise and analysis

Responding to the New Reality in Banking | 6

The Cream Rises to the Top
Overall, our findings reveal that top performers
have adapted rapidly to the New Reality and
are leading their rivals by a considerable
margin. Industry leaders tell us they are
focusing on initiatives such as building refined,
data-driven approaches to pricing, and are
reactivating their sales forces with a focus on
the advisory role. They know it’s necessary
to reassess portfolios with a view toward a
potential new wave of non-performing loans.
They are using innovative solutions, such as
advanced analytics, to address emerging risks
early.

In our previous paper, we suggested a path
forward for banks in light of this New Reality.
As the story continues to unfold, banking
leaders must be nimble and ready to adapt. We
have thus evolved our action plan accordingly.
Most importantly, banks must focus on cost
containment during the current inflationary
period. They must continue strategic digitization
in core areas to improve both the customer
experience and their own resilience. Finally,
they must push for ambitious ROE targets and
reshape their communications to investors,
emphasizing their commitment to Net Zero.

Adapt to the New Reality and optimize
the business
• Review portfolio choices across business activities,
geographies, etc.
• Focus on cost reduction during the current inflationary
period
• Optimize risk-weighted assets and liquidity
• Deploy innovative solutions such as AI-driven earlywarning and scoring models
• Improve the bank’s footprint given climate commitments

Keep playing offense
• Focus on acceleration of new avenues of growth and fee
income, e.g. transition/sustainable finance
• Target top-line activation and optimization through
advanced analytics
• Double-down on digitization in core areas, improving
resilience and cost-to-serve while driving customer
satisfaction

Banking leaders should see
the current environment as a
challenge, not a crisis, and meet
the opportunity with enthusiasm.
It’s times such as these that
separate the winners from the
rest of the pack. The cream rises
to the top.
We will continue to monitor
the performance of banks
throughout this difficult period,
keeping our readers abreast of
key trends and details. Please
feel free to contact our team of
experts at

newreality@bcg.com

Invest in the work force
• Emphasize upskilling the front office and broader
initiatives to unlock growth opportunities (e.g. advisory
capabilities) and to face the storm (e.g. reaction in front of
inflation)
• Define the employee value proposition vs. new
expectations for a post-pandemic work force

The authors would like to thank
Gabe Grand, Akshay Agarwal,
Keith Bussey, Usman Chaudhry,
Charikleia Kaffe, Aris
Papadimitriou and Philip
Crawford for their contributions.