Analysing financial institutions’ quarterly reports can be a headache-inducing mess of acronyms and obfuscating lingo, making it nigh on impossible to determine what numbers to pay attention to and what numbers to ignore.
Thankfully, Proactive is here to help.
In the following guide, we explain in simple terms all the key sector-specific ratios, regulatory jargon and a few generic ratios that you’ll likely come across.
Industry-specific ratios
AQR (asset quality ratio) is a financial metric used to evaluate the quality of a bank's loan portfolio. It measures the amount of non-performing loans (NPLs) in relation to total loans.
The AQR is an important indicator of a bank's asset quality, financial health, and credit risk.
A high AQR ratio indicates that a bank has a significant number of NPLs, which can be a sign of weak underwriting standards or economic conditions.
CET1 (common equity tier 1) ratio is a regulatory measure that assesses a bank's capital adequacy and ability to absorb losses.
It represents the proportion of a bank's risk-weighted assets that are supported by CET1 capital, which is the highest-quality form of capital that a bank holds.
Regulators use CET1 ratio as a benchmark to ensure that banks hold sufficient capital to manage risks and maintain financial stability.
High CET1 ratios are typically viewed as a sign of a bank's financial strength, while low ratios can indicate financial weakness and increase the risk of failure.
NII (net interest income) is the difference between the interest income generated by their assets (loans, investments, etc.) and the interest expense incurred from their liabilities (deposits, borrowings, etc.).
A higher NII indicates that a financial institution is earning more income from its core operations, while a lower NII indicates that it may be struggling to generate revenue.
NIM (Net interest margin) is a financial metric that represents the difference between the interest income earned by a financial institution from its assets, such as loans, and the interest expense paid on its liabilities, such as deposits.
NIM is important for financial institutions because it measures the profitability of its core business activities, which is to generate income from lending and investing activities.
In general, a higher NIM indicates that the bank is able to generate more profit from its lending and investing activities, which is a sign of a well-managed and profitable bank.
PCL (provision for credit losses) is a financial term used by financial institutions to describe the amount of money set aside to cover potential losses due to borrowers who are unable to repay their loans.
A higher PCL indicates that the bank is being proactive in protecting itself against potential credit losses, while a lower PCL indicates that the bank may be taking on more risk in its loan portfolio.
Pro forma CET1 ratio is important for financial institutions because it helps them to assess their capital position under different scenarios and plan accordingly.
CET1 ratio represents the proportion of a bank's risk-weighted assets that are supported by its CET1 capital, while pro forma CET1 ratio is a hypothetical calculation that takes into account potential changes to the bank's balance sheet or regulatory requirements.
RoTE (Return on Tangible Equity) is a financial metric that measures a company's profitability relative to its tangible equity.
Tangible equity represents the portion of a company's equity that is tangible, such as common stock and retained earnings, minus intangible assets such as goodwill.
For financial institutions, RoTE is an important performance indicator because it provides a measure of their efficiency in deploying equity to generate profits while managing risks.
The RoTE target for a bank can vary depending on a range of factors, such as the bank's size, business model, risk profile, and prevailing market conditions. However, a good RoTE target for banks typically ranges between 10-15%.
Regulatory requirements
CCLB (countercyclical leverage ratio buffer) is a regulatory requirement that requires financial institutions to maintain an additional buffer of capital during periods of economic expansion to protect against potential losses during periods of economic contraction.
CCLB is designed to ensure that banks are better prepared for future economic downturns and that they have enough capital to absorb losses.
In general, a higher CCLB indicates that the bank has a stronger capital position and is better able to withstand potential losses during economic downturns.
CCyB (countercyclical capital buffer) is a regulatory tool that requires banks to maintain an additional buffer of capital during periods of excessive credit growth to protect against potential losses during periods of economic downturn.
CCyB is important for financial institutions because it helps to ensure that they are better prepared for future economic downturns and have enough capital to absorb losses.
In general, a higher CCyB indicates that the bank has a stronger capital position and is better able to withstand potential losses during economic downturns.
G-SII ALRB (additional leverage ratio buffer) is a regulatory requirement that applies to global systemically important banks (G-SIBs) and requires them to maintain an additional buffer of capital to protect against potential losses.
This buffer is designed to increase the resilience of G-SIBs and limit the risk of failure.
In general, a higher G-SII ALRB indicates that the bank has a stronger capital position and is better able to withstand potential losses.
MREL (minimum requirement for own funds and eligible liabilities) is a regulatory requirement for banks and other financial institutions to maintain a minimum level of equity and eligible liabilities to absorb losses and protect depositors in the event of a financial crisis.
In general, a higher MREL indicates that the bank has a stronger capital position and is better able to absorb losses during economic downturns, which is a sign of a well-managed and financially sound bank.
Non-industry-specific ratios to watch out for
CIR (cost-to-income ratio) is a financial metric that measures a bank's operating expenses as a percentage of its operating income.
It is an important indicator of a bank's efficiency and profitability, and is closely monitored by investors and analysts
A lower CIR typically indicates that the bank is able to generate profits while keeping costs under control, which is a sign of a well-managed and profitable bank. A good figure for CIR varies depending on the bank's size, business model, and industry, but in general, a CIR below 50% is considered a good benchmark for banks.
LTV (loan-to-value) ratio is a financial metric that represents the amount of a loan compared to the value of the asset that it is secured against.
LTV is important for financial institutions because it helps to assess the risk of the loan and the borrower's ability to repay it.
A lower LTV indicates a lower risk for the lender since the loan is more secured by the asset.
Profit before impairments is a financial metric that represents a bank's pre-tax operating profit, before factoring in provisions for loan losses or other impairments.
For financial institutions, profit before impairment is important because it provides a measure of the bank's core operating performance and underlying profitability.
A higher profit before impairment indicates that the bank is generating strong earnings from its core business activities, which is a sign of a well-managed and profitable bank.
TNAV (tangible net asset value) per share is a financial metric used to determine the value of a company's tangible assets, such as property, equipment, and inventory, minus its liabilities, and divided by the number of outstanding shares.
For financial institutions, TNAV per share is important because it provides a measure of the company's underlying value and financial strength.
In general, a higher TNAV per share indicates that the company has a strong financial position and is able to generate sustainable returns for its shareholders.