6 minute read 2 Nov 2020
Woman carrying umbrella while walking

Why financial services firms are facing a multitude of challenges

By Omar Ali

EY EMEIA Financial Services Client Services Managing Partner; EY UK Financial Services Managing Partner

Passionate about building a better financial services industry with our people and our clients. Champion for D&I and helping our people to reach their potential. Football enthusiast. Bad at skiing.

6 minute read 2 Nov 2020

Rises in COVID-19 cases, Brexit uncertainty and climate change risk will continue to test the UK financial services industry and wider economy

The key findings from the latest EY ITEM Club Outlook for financial services are:
  • Total stock of bank lending to businesses forecast to close 2020 at £493bn, an 11% year on year increase, due to firms borrowing heavily through the pandemic.
  • Consumer credit predicted to fall by 5.6% in 2020, the biggest decline since 2011.
  • Mortgage lending proving resilient, with growth forecast to be 3.2% in 2020 and 3.4% in 2021 – but, new lockdown restrictions could dampen outlook.
  • The value of UK asset managers AUM is forecast to drop 1.5% in 2020, while the insurance sector faces challenges across the general and life markets. 

E

conomists do not have an easy job, particularly at the moment, with economic fundamentals such as borrowing, consumer spending and consumer confidence changing rapidly. I’m afraid the risks to our latest EY ITEM Club Outlook for financial services are to the downside; the forecast is based on the assumption that a Brexit deal will be reached at the end of the year, and that more normal economic conditions will return in 2021 with a gradual relaxation of COVID-19 restrictions, both of which are currently hanging in the balance.

As we fast approach the end of the Brexit transition period, firms don’t yet have a clear view on what a future trading relationship with the EU, and many other significant trading partners will look like, although the progress made in securing a trade deal with Japan is encouraging. Additionally, it’s unclear how long the current lockdown restrictions will last, and what potential future virus control measures there may be.

The headlines from our latest EY ITEM Club outlook are downbeat: despite a bounceback over the summer, the forecast is for a record 10% decline in Gross Domestic Product (GDP) across 2020; unemployment is forecast to rise to over 7.5% early next year; and consumer spending is forecast to fall by 12.8% across 2020. 2021 is set to be better, but both GDP and consumer spending will only partially recover.

The Government continues to provide unprecedented levels of much-needed support to the economy, but rising unemployment and the replacement of the Furlough Scheme with the Jobs Support Scheme, will ultimately reduce the amount of money in consumers’ pockets, which impacts their ability to service existing debt and make new purchases. In response, both the financial services industry and the regulators have put further support measures in place to help customers and businesses with their financial resilience. Rising unemployment and the ongoing challenges faced by small businesses in many sectors will mean the outlook remains testing.

Financial services firms entered this crisis in a position of capital strength and have played a critical role since the UK went into lockdown, giving unprecedented support to businesses and the wider economy. Numbers out from the Treasury on 22 October 2020 show that banks have supported £62b of lending from Government schemes to date. The total stock of bank lending to businesses is forecast to reach £493b at the end of 2020, which is a huge 11% year-on-year increase.

To view this from a different angle, UK firms’ net borrowing this year is expected to be around five times higher than the amount borrowed in 2019, with many firms predicted to only start repaying this debt and reducing their borrowing from 2022. And our forecast shows that banks will continue to lend next year to support business and growth in the UK economy, with the EY ITEM Club predicting business lending growth of more than 5% in 2021.

But the banking sector is facing a multitude of challenges, including squeezed interest margins and increased write-offs on loans. Total business loan losses are forecast to rise from 0.3% in 2019 to 0.4% and 0.5% this year and the next, as some businesses struggle to meet their loan repayments. And new lockdown restrictions could see borrowing levels rise even further, and subsequently the potential for loan losses to increase.

Our latest forecast shows the financial services sector will continue to support consumers, businesses and the wider economy - despite on-going volatility - with business lending forecast to increase over 5% in 2021.

Meanwhile, consumer credit is forecast to see the biggest fall in nine years in 2020 – nearly 6% - with only a slow recovery of 0.5% growth in 2021. Whilst it remains to be seen how consumer confidence will evolve, local lockdown restrictions and a forecasted steep rise in unemployment are likely to further negatively impact growth, placing additional pressure on banks. 

One area where reasonable growth is forecast is mortgage lending. Despite the economic challenges, mortgage lending growth of 3.2% and 3.4% is forecast this year and next, due to the temporary cut in stamp duty, very low mortgage rates and savings accumulated during lockdown helping to fund property deposits and trading-up. However, new lockdown restrictions – and the potential for more to come – present a risk to our forecast.

The rest of the financial services industry is also feeling the effects of the economic impact from COVID-19. Insurers are facing multiple challenges this year and asset managers are contending with a fall in AUM – 2020 is forecast to see the value of UK asset managers AUM decline by 1.5%, a stark contrast to the growth of 11.6% seen in 2019.

COVID-19, continued Brexit uncertainty and climate change risk are a potent combination of both short-term and long-term challenges for the financial services sector. But if there’s one thing this forecast shows, it is the inter-relation between the macroeconomic forecast and the role of the financial services industry in getting credit to consumers and small businesses, supporting households in their savings – and accessing those savings – and the insurance sector’s support to businesses and consumers in difficult times. Over the next few years the UK needs a healthy financial services sector, so it can remain focused on supporting the economy through short-term volatility and uncertainty, as well as ensuring the country retains its place as a world-leading financial services centre post-Brexit such that it can help build back a better Britain

Read the press release

Summary

The latest EY ITEM Club Outlook for financial services shows that, despite an economic rebound over Q3 2020, rise in GDP is expected to slow significantly in Q4 2020 as post-lockdown release of pent-up demand fades, and new social distancing measures and local restrictions drag on activity.

About this article

By Omar Ali

EY EMEIA Financial Services Client Services Managing Partner; EY UK Financial Services Managing Partner

Passionate about building a better financial services industry with our people and our clients. Champion for D&I and helping our people to reach their potential. Football enthusiast. Bad at skiing.