European banks show improved fundamentals

European banks have undergone significant improvements in their fundamentals over the past decade, with returns on equity (RoE) and returns on tangible equity (RoTE) increasing substantially. This improvement is comparable to Japan’s push toward low-to-mid-teen RoE/RoTE, which is considered a regime change in the sector.

The mechanism behind this improvement is familiar: normalizing rates lift returns, as seen in European banks since 2022. However, the memory of the twin scars of the Global Financial Crisis (GFC) and the Eurozone crisis still lingers, and the market may still be charging European banks a premium for these past issues.

Improved Fundamentals

The European bank story over the past fifteen years is one of better returns, with more banks consistently earning higher returns and less dispersion across the sector. This improvement was achieved while balance sheets were being rebuilt, with more and better-quality capital, and reduced legacy non-performing loans.

Micro- and macroprudential reform reshaped underwriting standards, leaving the sector better placed to absorb the next credit cycle. The data shows that the mean RoTE for European banks has climbed out of the mid-single digits into a settled low-double-digits, with a cross-sectional standard deviation of returns collapsing from 21.8 in 2012 to 3.6 in 2025.

This combination of higher average return and lower dispersion is worth more than the headline RoTE, as it speaks directly to the resilience of the weakest names in the index. The share of banks posting at least one quarterly loss has decreased significantly, from 47.4% in 2012 to around 8% in 2025.

The proportion of banks consistently earning above a 10% return has increased to 38.9% in 2025, with roughly four in ten European banks now clearing a double-digit hurdle. This improvement is not limited to a handful of national champions but is instead a broad-based recovery across individual countries.

Ratings and Pricing

The rating agencies have ratified the improvement in fundamentals, with European bank senior debt ratings steadily improving and migrating out of lower-rated buckets into A categories. However, the price of bank credit has not fully kept pace with the quality of it, with bank spreads still reflecting a risk premium versus non-financials.

While this premium is declining, the market still demands extra compensation for owning banks, particularly during bank-centric crises. The endpoint beta, which measures the peak move in bank spreads divided by the peak move in non-financial spreads, shows that banks amplify consistently, with the largest betas clustering in bank-centric crises.

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This suggests that the excess sensitivity of bank spreads is fading, and the residual premium is an opportunity rather than a warning. The market is coming round in stages, with fundamentals repaired years ago, ratings caught up more recently, and spread behavior only now beginning to normalize.

According to the report, the declining risk premium is expressed in beta rather than in level, and beta is the harder test because it strips out the direction of the market and asks only how much extra the market charges banks when it turns. The picture is of a market that is still adjusting to the new reality of European banks, with more to come in terms of spread normalization.

The data shows that the beta has been drifting toward 1x outside genuine bank crises, indicating that the market is slowly recognizing the improved fundamentals of European banks. As the market continues to adjust, the residual premium is likely to decrease, making European bank credit more attractive to investors.

The rating migration is evidence of the sector’s improved creditworthiness and reduced risk profile.

The report notes that the market’s perception of European banks is still influenced by the memory of past crises, but the data suggests that the sector has made significant progress in repairing its fundamentals.

The table setting out the endpoint beta for each major risk-off episode since 2011 shows that the largest betas cluster in the bank-centric crises, while the most recent non-bank-driven shocks compress back toward 1x.

Spread Normalization

However, the most recent non-bank-driven shocks compress back toward 1x, indicating that the excess sensitivity of bank spreads is fading.