23 January 2017

  |  CBI Press Team

News

Optimism continues to drop amid mixed picture for UK financial services

Sentiment amongst financial services firms deteriorated further in the three months to December, but there are signs of an improvement in business conditions over the next quarter for some sectors, according to the latest CBI/PwC Financial Services Survey.

Optimism continues to drop amid mixed picture for UK financial services

The quarterly survey of 103 firms found that optimism about the overall business situation fell for the fourth consecutive quarter, the longest period of declining sentiment since the global financial crisis of 2008, and the sharpest fall since December 2008. A more pessimistic mood was particularly prevalent among banks, with general insurers and finance houses also less optimistic. However, investment managers, life insurers and insurance brokers were more optimistic than they had been three months earlier.

Overall business volumes were flat in the last quarter of 2016, but are expected to pick up somewhat in the first three months of 2017, with stronger demand in the life insurance and investment management sectors contrasting with a more challenging environment expected by banks and building societies.

Growth in profits was also unchanged in the three months to December, but profitability is expected to improve across financial services in the next quarter, (with the exception of building societies), as cost pressures continue to ease.

Asked about the main challenges for financial services firms in 2017, a range of concerns emerged. Nine in ten banks saw preparing for the impact of Brexit as the number one challenge, but this was not the case in any other sector. Building societies were most concerned about macroeconomic uncertainty, while the level of competition preoccupies the insurance sectors. Firms in every sector see the need to intensify their dialogue with regulators in response to uncertainty around Brexit.

Rain Newton-Smith, CBI Chief Economist, said:

“Despite feeling uncertain about the near future, it’s encouraging to see the financial services sector charting a steady course, with firms expecting to raise investment and step up the pace of hiring, while continuing to deliver improvements to the bottom line.

“As we head into the New Year, a mixed picture emerges from financial services firms about their hopes and fears. Whilst Brexit is a particular challenge for banks, and broader economic uncertainty is also a concern for many, firms are also looking to future opportunities, with the promise of FinTech offering an exciting chance for the sector to lead the way in adopting new technology and boosting productivity.

“Ruling out membership of the Single Market has reduced options for maintaining a barrier-free trading relationship between the UK and the EU. Businesses will welcome the greater clarity and the ambition to create a more prosperous, open and global Britain, with the freest possible trade between the UK and the EU. Business stands ready to support the negotiations to get the best possible deal for the UK by ensuring that the economic case is heard loud and clear.”

Andrew Kail, Head of Financial Services at PwC, said:

“Uncertainty has contributed to the low levels of optimism reported by many financial services companies, particularly by the banks.

“However, the clarity on the UK position from the Prime Minister's speech is welcome, not least the commitment to a period of phased implementation.

“Financial services companies face many challenges to their business models from competition, regulation, technology and Brexit and, as a consequence, are having to take some big decisions about their future strategy. 

“While companies are relatively positive about short term business volumes and profitability, they continue to need to make significant investments to protect their future. The first quarter of 2017 and beyond  will see many start to fine tune and activate their Brexit contingency plans as the reality of life outside the single market and the EU begins to dawn.”

Following recent ONS data showing a slight rise in employment in financial services in Q3 2016, the survey provides a further sign of an improving picture, with numbers employed edging up during Q4 and a more solid increase predicted for the next three months.

Investment intentions are largely at above average levels. Spending on IT is expected to continue to rise at a healthy pace, while firms intend to keep capital spending on land and buildings, and vehicles, plant & machinery, broadly steady.

Increasing efficiency and ensuring regulatory compliance remain the most important motivations for investment. Asked about the potential of FinTech investments over the next three years, firms see the biggest potential as being for process automation, data analytics, cyber security and digital transformation.

Key findings:

  • Optimism in the financial services sector fell for a fourth consecutive quarter in the three months to December – the longest period of deteriorating sentiment since the global financial crisis in 2008

  • 10% of firms said they were more optimistic about the overall business situation compared with three months ago, whilst 45% were less optimistic, giving a balance of -35% (compared with -13% in the quarter to September – the lowest balance since the final quarter of 2008)
  • 19% of firms said that business volumes were up, while 17% said they were down, giving a balance of +2%. This compares with +34% in September
  • Looking ahead to the first quarter of 2017, growth in business volumes is expected to pick up: 29% of firms expect volumes to rise next quarter, and 22% expect them to fall, giving a balance of +7%.

Employment:

  • 18% of financial services firms said they had increased employment, while 10% said that it had decreased, giving a rounded balance of +7% (compared with +3% last quarter)

  • Numbers employed are expected to see a more solid increase next quarter (+20%), though not in building societies (-18%).

Investment over the next 12 months:

In the year ahead, financial services firms expect to increase IT and marketing spending, and to leave other forms of capital spending broadly unchanged:

  • IT: +58% (up from +50% in September)
  • Marketing: +14% (down from +26% in September)
  • Land and buildings: -5% (down from -4% in September)
  • Vehicles, plant and machinery: -2% (up from -4% in September)

The main reasons for authorising investment are cited as:

  • To increase efficiency/speed (78% of respondents)
  • Statutory legislation & regulation (70% of respondents)
  • To expand capacity (56% of respondents)

The main factors likely to limit investment are cited as:

  • Uncertainty about demand or business prospects (46%)
  • Inadequate net return (43% of respondents)
  • Shortage of labour, including managerial & supervisor staff (28%)
  • Shortage of finance (13%).

Business expansion over the next 12 months:

The most significant potential constraints on business growth over the coming year are:

  • Competition (cited by 79% of respondents)
    • 99% of firms see competition coming from within their own sector of financial services
    • 71% see competition coming from new entrants  (the highest since this Survey began in December 2006)
    • 31% see competition coming from other sectors of financial services
  • Level of demand (54%).

Incomes, costs and profits:

  • Overall profitability was unchanged in the quarter to December, with 17% of firms reporting that profits had increased and 19% saying they fell, giving a rounded balance of -1%

  • Income from fees, commissions and premiums fell (-9%), but is expected to stabilise somewhat in the quarter ahead (-3%)
  • Income from net interest, investment and trading held up better (-1%) than expected (-8% in September), but a stronger decline is expected next quarter (-18%)
  • Total operating costs rose a little (+4%), but are expected to fall next quarter (-11%). Average costs were broadly unchanged (-2%), but are expected to decline sharply next quarter (-27%).

Challenges and opportunities for firms:

  • Asked to name the top three challenges facing the financial services sector over the coming year, firms ranked the number one challenge as preparing for the impact of Brexit (ranks were converted to scores, with the impact of Brexit attaining 42% of the maximum score). This was followed by macroeconomic uncertainty (35%) and regulatory compliance (31%):

    • Banks overwhelmingly saw preparing for the impact of Brexit as the number one challenge (94% of maximum score)
    • The majority of building societies saw macroeconomic uncertainty as the prime challenge (64% of maximum score)
    • Competition was the overwhelming concern of insurers (82% of life insurance, 71% of general insurance, and 63% of insurance brokers)
  • Firms in every financial services sector said ramping up their dialogue with regulators will be the main impact of the uncertainty around the process of negotiating the UK’s exit from the EU (a net balance of 74% of firms)
  • Financial services firms see the main potential of FinTech investment over the next 3 years to be in:
    • Process automation (82% of maximum score)
    • Data analytics (68% of maximum score)
    • Digital transformation (58% of maximum score).