Japanese Banks in the Spotlight: Capacity to Generate Earnings and Capital Buffers Mitigate Negative Impact of Extreme Volatility

The Nikkei 225 stock index fell more than 12% on 5 August and recovered 10% the next day. On 7 August, the yen weakened by more than 2% after the Bank of Japan said it would not raise rates as long as markets were unstable, following an earlier rise in the yen and an impact on carry trades. In this commentary, we briefly discuss the potential impact of such volatility on the profit and loss and capital positions of the three Japanese mega-banks: MUFG Bank, Ltd.; Sumitomo Mitsui Banking Corporation; and Mizuho Bank, Ltd.

Key highlights:
-- The higher interest rate environment has been positive for the three Japanese mega-banks' earnings, and we expect this will continue. Meanwhile, we note market volatility is generally favourable for trading income.
-- The Japanese mega-banks hold significant cross-shareholdings through Japanese equities in addition to holdings of Japanese government bonds; however, they have been actively unwinding these securities holdings in recent years.
-- Capital buffers over the regulatory minimum were ample at end-F2023, and the banks' CET1 ratios are likely to continue to benefit from the banks' improved capacity to generate earnings, which provides room to absorb shocks.

"The Japanese mega-banks' profitability is trending upward largely thanks to a higher interest rate environment, in contrast to a long period of ultra-low rates, and this should continue", said Vitaline Yeterian, Senior Vice President at Morningstar DBRS. "In addition, should the recent significant volatility in Japanese equities continue, we consider it unlikely to have a material impact on the banks' capital strategy at this point."