Large European banks' oil & gas exposures add to broader earnings challenges

The energy exposures of the large European banks are moderate and do not present a significant risk to their earnings or capital. However, rising provisions in 2016 will weigh on profitability, says Moody's Investors Service in a report published today.

"A prolonged oil price slump, which is in line with our expectations, would entail more provisions for the large European banks. Any future losses from energy companies would eat into their profitability, which is already challenged by the weak operating environment," says Alessandro Roccati, Senior Vice President at Moody's.

Moody's calculates gross energy exposures (including loans, commitments and trading exposures) of 19 large European banks totaled EUR270 billion at end-2015. Moody's analysis reveals that most European banks show a moderate concentration to the energy sector as a percentage of their equity, on average, one third of their Common Equity Tier One capital (CET1).

Most of the European banks' energy exposures are concentrated in the large integrated oil companies, which Moody's views as being lower risk than upstream (such as exploration and production) and midstream (transport and storage) oil companies. This is in contrast with US and Canadian banks, which have larger exposures to lower-rated sectors.

European banks that disclosed the credit distribution of their exposures appear to have a moderate amount of high-risk energy exposures on their books, one-third of which includes speculative-grade ratings and two-thirds investment-grade ratings on average.

So far, high-risk energy exposures have performed well and provisions in 2015 were modest, although these will likely increase in 2016. For most large European banks, any deterioration of energy exposures will add to their broader earnings challenges, given the already weak operating environment.

Moody's stress test highlights that banks' energy exposure are manageable both in a moderate and in a severe stress scenario: the rating agency estimates that the average negative impact on the banks' end-2015 CET1 (pre-earnings and mitigating actions) would be around 10 basis points (bps) in a moderate stress scenario, and around 30bps in an adverse stress scenario.