By Maximilian Clarke

Growth in the UK's financial services sector accelerated to its highest level since 2007, a joint PwC/CBI (Confederation of British Industry) report showed, despite a slight drop in sentiment among firms.

Following is a sectoral breakdown of key performers within financial services, with explanations by financial experts exploring trends within the UK's most lucrative economic sector.

Banking

Banking saw strong growth in business volumes and income values in the past three months, and considered the volume of business to be above normal for the first time since June 2007. The sector expects further growth in volumes next quarter. The total cost base was stable, so average costs per transaction fell smartly with higher sales, and enabled the trend in profitability to improve at a faster rate. Spreads also widened. The numbers employed declined and are predicted to do so again next quarter. Banks expect to spend less on marketing and the same amount on IT in the year ahead compared to last year, while there is nearly universal expectation that more will be spent complying with regulations in the coming year.

Building Societies

Societies’ optimism fell. The volume of business in the sector also fell, but was no longer regarded as below normal. Societies managed to increase their business with industrial and commercial companies, but saw declining business with private individuals. They plan to invest more on both marketing and IT in the coming year than they did last year, but are concerned that the level of demand could limit their expansion.

Finance houses

Business volumes and income from fees and commissions both increased in this sector. The level of business was above normal. Moderate falls in average costs per transaction and in set asides for non-performing loans, and an improvement in spreads, also helped to lift profitability this quarter. Numbers employed grew after stabilising last quarter, and are expected to grow more decisively next quarter. Firms plan to increase their investment and marketing spending in the year ahead.

“These latest results show pessimism for the coming months although banks have responded that they have seen high levels of business volumes and income over the recent period," commented Kevin Burrowes, UK Financial Services Leader at PwC. "We anticipate that this pessimism will translate into increasing concern over non-performing loans in 2012.

"Banks have also shown a marked acceptance that there will be increased competition in the UK. Regulatory changes remain high up the agenda and will absorb significant management time, and spend on this will be very high throughout the year. Further job losses across the sector seem inevitable as banks seek to manage their cost base.

"So eurozone turmoil, uncertainty in the global economy, UK austerity, weak household incomes, increased competition, significant regulatory changes, and reducing headcount, not to mention the fight for funding, all point to a challenging year for bank management. Careful management of business performance and reform versus all aspects of risk management will be critical."

Life insurance

Life insurers’ business volumes grew, albeit at a slower rate, completing two years of consistent growth in sales, a performance that has been matched by profitability. Even so, rates of increase in incomes from premiums and in the value of new business are rather moderate, and life companies were less optimistic than they were three months ago. Firms fear lower volumes, incomes and profits next quarter. Staff turnover fell unexpectedly, while numbers employed increased and are predicted to do so again next quarter.

General insurance

General insurers saw very marginal growth in premium income and in business volumes, but expect they will improve faster in the coming quarter. The value of investment income was much lower for the second successive quarter, while average costs were higher, so that the impact on profitability was more negative than expected. Numbers employed were reduced for the third quarter running. The trend in the value of insurance claims in the past year was higher than its long run average for the sixth consecutive quarter.

Insurance brokers

Brokers’ profitability fell back after an unexpectedly strong fall in the volume of business and value of premium income. Total operating costs fell, but the decline in volumes was sufficiently steep to push average costs per transaction up strongly. Profitability is expected to fall again, with volumes and premium income, next quarter, but to do so at a much slower rate. Brokers also plan to invest much less in the year ahead on premises, vehicles, IT systems and marketing.

“Life insurers’ predictions for the new year are downbeat as they struggle to contend with the unhelpful combination of falling consumer confidence, a quiet housing market, tighter household budgets and volatile investment markets," commented Howard Scott, insurance partner at PwC.

"This difficult environment is expected to hurt profitability, with most life insurers expecting a significant dip in the next quarter. Regulation remains a major preoccupation and companies are investing in their sales channels in preparation for the retail distribution review. However, growth in compliance-driven spending is slowing as Solvency II deadlines continue to move back.

“Intense competition in the retail market, especially in home and motor insurance, coupled with the recent run of natural catastrophes and increasing value of claims continues to put pressure on general insurers’ profits. Insurers’ hopes for the early part of 2012 rest on growth in commercial lines and an anticipated recovery in business with overseas customers. General insurers continue to plan further headcount reductions in response to the tough market conditions.”

Investment Management

Investment managers were less optimistic than they were three months ago, after the volume of business fell for the first time since March 2009. The value of incomes (from fees, commissions, trading and investments) also fell unexpectedly. The fall in business was most apparent with private individuals. Consequently profits experienced their first fall since June 2009. Expectations are that all the above measures will fall again but at a slower rate next quarter. Employment stabilized and is predicted to resume increasing in the coming three months. Firms plan to invest more on IT systems and marketing in the year ahead.

Securities Trading

Volumes declined in securities trading, and the level of business was seen as “below normal”. Firms also saw a decline in the value of fee and commission income, and higher average costs per transaction. These factors caused profitability to fall strongly, but are all expected to rise gently and do the same for profits next quarter. Numbers in employment grew surprisingly strongly, however. Firms plan to increase their marketing budgets in the year ahead relative to last year, but to reduce their spending on IT systems.

“The turmoil in the eurozone and subsequent volatility in markets in the last part of 2011 has led to lower levels of business and fee income amongst investment management firms and this has been compounded by investors, particularly private clients, switching their capital to low-fee assets," Pars Purewal, UK investment management leader at PwC, said.

"There is significant concern that weak demand will be a threat to firms over the coming year and firms will also need to spend an exceptional amount of time and resources on making sure they keep abreast of and compliant with new regulation. As such, optimism for the coming quarter is low amongst investment managers.

“The continued difficulties in the eurozone are leading many securities traders to report downbeat predictions for volumes and revenues, although predictions for the next three months are slightly more optimistic with corporate clients expected to provide more business for securities traders. Employment has stabilised and firms now have more clarity around the impact of new regulation including the European Market Infrastructure Directive (EMIR) and Markets in Financial Instruments Directive (MiFID), although the costs and potential limitations to growth of regulatory compliance remain a concern. Potential further regulatory changes and increasing constraints on capital are also causing concern in the industry."


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