Global Banking Annual Review 2021: The great divergence

Ming-Lan Fu, CFA, FRM - Associate Partner - McKinsey & Company | LinkedIn

As we approach the end of the second year of a worldwide pandemic, the global economy has surprised to the upside, and banks have escaped the worst. But the outlook for the industry remains clouded with half of banks not covering their cost of equity.

Unlike the previous economic crisis, this time banks did not witness any abnormal losses, material capital calls, or “white knight” acquisitions. In fact, bank profitability held up better than most analysts expected. ROE in 2020 was 6.7 percent—less than the cost of equity but still a better showing than expected and above the 4.9 percent observed in 2008 in the aftermath of the financial crisis. (A PDF of the full 2021 McKinsey Global Banking Annual Review, with more detailed data, and a set of strategic questions for banks, is available for download on this page.)

But if the pandemic has not had the expected harmful financial effects on the global banking industry, it has certainly had plenty of others. Digital banking accelerated, cash use fell, savings expanded, remote became a way of working, and environment and sustainability are now top of mind for customers and regulators.

The banking system is at least as solid as it was before the pandemic—and much healthier than after the last crisis. But can we say a bright and smooth future lies ahead for banks and their shareholders? Not really. Cause for concern is evident in banks’ performance on two yardsticks: ROE, a measure of current profitability, and market-to-book value, a leading indicator of how capital markets value banking.

Fifty-one percent of banks operate with an ROE below cost of equity (COE), and 17 percent are below COE by more than four percentage points. In an industry that has high capital requirements and is operating amid low interest rates, creating value for shareholders is structurally challenging. In fact, the almost $2.8 trillion of capital that was injected by shareholders and governments into banking over the past 13 years eroded three to four percentage points of ROE.

The challenges facing a capital-intensive industry in a low-price environment also show up in valuations. Banks are trading at about 1.0 times book value, versus 3.0 times for all other industries and 1.3 times for financial institutions excluding banks, with 47 percent of banks trading for less than the equity on their books. And these undervaluations persist even after a period in which the financial system as a whole gained about $1.9 trillion (more than 20 percent) in market cap from February 2020 to October 2021.

Out of 599 financial institutions we analyzed, just 65 accrued all the gains (Exhibit 1). Most of these deploy a specialized and capital-light business model or operate in fast-growing markets. A few universal banks also gained, but the vast majority either realized small gains in their share price or lost value.

Banking valuations suggest that capital markets are discounting an industry whose baseline for profitability and growth is decent and resilient but not attractive—and that is undergoing disruption from financial-services specialists with limited reliance on the balance sheet. This is reflected in the market multiples, where banking is currently valued more in line with an average utility, with a price-to-earnings ratio (P/E) of 15 times, than with a specialized financial services provider, where P/Es are 20 to 30 times.

Baseline for 2022–25: Decent but not attractive

Taking into account the likely macroeconomic and pandemic scenarios and factoring in the highly varied starting position of banks worldwide, we see the global industry set for a recovery that could put ROE at between 7 and 12 percent by 2025—which is somewhat aligned with what happened in the last decade (2010–20), when the average ROE was 7 to 8 percent.

This baseline is nuanced by region and will be shaped by three macro and interconnected factors beyond banks’ control: inflation and ultimately interest rates, government support for the recovery, and liquidity. These variables will determine whether the industry will operate in the upper (12 percent) or lower (7 percent) range of profitability.

If stars align, ROE in its upper range would compare favorably with the levels achieved in 2017–19. But that’s still far from being attractive to investors, who have many rapidly growing, more profitable opportunities to consider.

From convergent resilience to divergent growth

Since 2008, the gap between the banking industry’s leaders and followers, as measured by total returns to shareholders, has steadily widened. By 2019, top-decile performers were delivering about five times more value to their shareholders than the bottom decile (and 3 times more than the average bank). Now we’ve arrived at another defining moment in the shareholder value race: the aftermath of a crisis. As an example, after the last crisis (2007–09), about 60 percent of the performance gap over the next decade occurred during the first two years of recovery (2010 and 2011). During the remainder of the decade, the gap continued to widen, but more slowly (Exhibit 2).

If we are fortunate with regard to COVID-19, 2022 will be about navigating the aftermath of a crisis. Declaring an end to COVID-19 is, of course, premature, and perhaps not the right way to think about it. Today, many countries do seem to be on a path back to a form of normalcy, thanks to effective government support and the success of many vaccines. However, some regions are confronting third and fourth waves of the disease, many of them triggered by the Delta variant, and by struggles with vaccination rates. In late November, the World Health Organization designated a new variant of concern: Omicron.1 As we publish this report, it is too early to say how effective current vaccines will be against the new variant. However, the emergence of a new variant underscores a simple fact: In an interconnected world, none of us are safe until we’re all safe.

Our expectation however, is that the coming five years or so will mark the beginning of a new era in global banking, in which the industry will move from a decade of convergent resilience (2011–20) to a period of divergent growth (2022–27).

Over the last decade, banks mainly focused on the same activities: rebuilding regulatory capital, mending regulatory fences, investing in digitization, and achieving productivity and efficiency gains. The result was a convergence of profitability to levels below cost of equity as average global ROE fell from 8 percent in 2010 to 6 percent in 2015. The gap between the industry’s top 10 percent and average ROE performers narrowed from 17 percentage points to 14. Valuation followed the same pattern, with market-to-book premiums moving from 250 percent to 234 percent over the same period.

This convergent resilience was an outcome of necessary actions taken by banks, especially in the early years. But as banks moved in lockstep, their offerings became commoditized, and customer expectations skyrocketed. In a low-interest-rate world, a commoditized business model based on the balance sheet yields less income and brings no differentiation to the customer. If we split revenues between those generated by the balance sheet and those that come from origination and sales (for example, mutual funds distribution, payments, consumer finance), the trend is clear: growth and profitability are shifting to the latter category, which has an ROE of 20 percent—five times higher than the 4 percent for balance-sheet-driven business—and now contributes more than half of banks’ revenues (Exhibit 3).

Not coincidentally, origination and sales are where specialists and platform companies are extending their tentacles to offer innovative, fee-based services that are challenging traditional banks’ business models. At launch, Revolut offered payment services with no fees and an app with spending insights. Recently, the UK-founded fintech entered the wealth management business by facilitating investments in fractional shares or cryptocurrency. The result: growth from 2 million to 15 million customers worldwide in three years. Mercado Libre, an established Latin America e-marketplace, is setting up its own payments solution, Mercado Pago. Square, founded 12 years ago to enter the merchant acquiring business, is valued at almost $100 billion and trades at a price-to-book of roughly 33 times (as of November 30, 2021).

Capital markets are already factoring in this growing divergence. In 2020, the premium from top to bottom performers widened to 470 percent (8.5 times market to book versus 1.5 times). In October 2021, this gap widened further to 518 percent (Exhibit 4). This divergence is more evident if we separate traditional banks, which are more reliant on balance sheet business, from the specialists and platform companies, which are more focused on origination and sales. The reason is that banks are valued similarly to utilities (that is, with low valuations and a narrow though widening gap between top and bottom performers), while specialists and platform companies are valued more like tech companies in other industries, with high valuations and wide gaps (Exhibit 5).

Sources of divergence

Decisive strategic commitments made today will separate the leaders from the also-rans in the race for shareholder value over the next five years, and position them to flourish in the future of banking. What are today’s leaders doing differently? What can banks emulate? What factors lie beyond their control? We analyzed more than 150 financial institutions globally—including banks, specialists, and fintechs—and found four sources for divergence: the geographies in which financial institutions operate, their relative scale, their segment focus, and the business models they deploy.


In 2010, a bank’s core geographic market accounted for 73 percent of the standard deviation in price to book (P/B). For the first half of the preceding decade, emerging economies had been the global growth engine; logically, banks that focused on serving these regions could count on that growth to boost investors’ confidence in their strategy.

Then, five years ago, there was an inflection point: growth returned to the developed world after the financial and European sovereign-debt crises, and the contributors to value were reversed. In 2017, the region a bank operated in accounted for only 41 percent of its P/B standard deviation.

Now location is again the biggest factor, accounting for about 65 percent of P/B standard deviation, according to our analysis. After the pandemic, we expect that emerging markets will again grow faster. According to our estimates, emerging markets’ share in global banking revenue pools will exceed 50 percent by 2025—a striking figure, considering that at the start of the millennium, these countries represented 20 percent of revenues.

Banks with the good fortune to have sizable and fast-growing economies as their core market will naturally benefit. Others will have to work harder to achieve similar results. Investors are already pricing in some of these geographic distinctions.


Our analysis shows that banks with leading in-country market shares display an ROE premium compared with peers. This scale effect is more pronounced in Asia and Latin America, where leaders enjoy approximately 400 and 450 basis points of ROE premium, respectively. In Europe, both large banks and small specialized players outperform midsize banks.

Larger banks are generally more cost-efficient, although the magnitude of the difference varies. In Sweden, Denmark, Germany, or Russia, the top three banks by assets are noticeably more efficient than the bottom 20 percent, with a cost-to-assets gap of 200 to 300 basis points. In the United States or China, the difference is lower—less than a 50-point gap.

We expect scale to matter even more as banks compete on technology. One reason for its importance continues to be that most IT investments tend to involve a fixed cost that makes them cheaper over a higher asset or revenue base. The initial impact of scale is this ability to bring marginal costs down as an organization gains operating leverage with consistent increase in size. But we expect greater benefits than cost cutting as digital scale begins to deliver the network effects of mass platforms offering peer-to-peer payments and lending, among other applications.


Another contributor to the great divergence is differences in banks’ capabilities to serve the fastest-growing and more profitable customer segments. Consider what’s happening in US retail banking. Over the past 15 years, the revenues from middle- and low-income households have shrunk considerably. According to our proprietary data, an average US household generates roughly $2,700 in banking revenues annually after risk costs, while a self-employed customer between the ages of 35 and 55 with a bachelor’s degree and an annual income above $100,000 generates four times more ($11,500).

The divergence in segment profitability is growing, and not only in retail banking. Small and medium-size enterprises (SMEs) represent one-fifth (about $850 billion) of annual global banking revenues, a figure that is expected to grow by 7 to 10 percent annually over the next five years. However, the profits of banks in this segment vary significantly, partly because of highly varied credit quality in the portfolio. Finding the optimal balance between providing a great customer experience and managing the cost to serve has also proven to be difficult. As a result, many banks have not prioritized SMEs—forsaking the vast potential value and leaving many SMEs feeling that their needs are ignored.

Future-proof business models

In a world that continually surprises, we hesitate to talk about a “future-proof” business. Many companies that thought they were ready for anything in 2019 are frantically reinventing themselves—or disappearing. Nonetheless, the concept is useful: What does it take to build a bank that is impervious to disruption as we understand it today?

Payments can serve as an example. Fiserv, Global Payments, Klarna, and Square are very different and operate in different parts of the payments value chain, but they all have thrived in a business in which most banks have been struggling to create value. Their business model is capital-light, focused on sales growth in the most relevant and attractive revenue pools and with a strong investment in technology and scalable and integrated systems. Banks, on the other end, have focused on the debtor-side interfaces where value creation has been limited and revenue sources are under pressure—for example, current accounts and cross-border payments.

Overall, specialized financial-services providers—in payments, consumer finance, or wealth management—are generating higher ROEs and valuation multiples than most global universal banks. Some fintechs are going from a rough sketch to billion-dollar valuation in a few years. And there are indeed some banks among the institutions diverging from the pack. What do these top performers have that others can build, acquire, or access through partnerships to deliver a higher shareholder value? Our analysis points to three common elements that make a future-proof business model:

1. Customer ownership with embedded digital financial services

Companies like Amazon, Apple, Google, Netflix, and Spotify have taken existing services and transformed them into digital experiences that are now embedded in customers’ daily lives. Leading fintechs, specialists, and banks are replicating this model in financial services, turning products into features to meet customer needs and keep them engaged. The existing, underlying elements are still there—the checking account, the personal loan, or the POS terminal—but they are less visible, a seamless part of a digital experience that goes beyond banking.

Successful financial-services providers take three steps to position their business for this shift. First, they attract customers by solving very specific yet relevant needs. Examples include Alipay and Klarna, which make shopping and cash management easier and convenient for small businesses through quick and simple onboarding, transparent pricing, new POS terminal features, and buy-now-pay-later checkout solutions.

Second, top performers bring customers into an ecosystem, connecting them with other services and building a dynamic and distinctive customer experience. For example, Square’s core offering is a payments service, but from there it developed comprehensive value-added services for sectors such as restaurants.

The third step is providing customers with personalized analytical insights. This increases customer engagement and, eventually, advocacy through word of mouth and social media. And in a virtuous cycle, it tells the bank or fintech more about customer behaviors and needs. The Canadian bank RBC’s AI-powered financial assistant app NOMI provides users with cash flow forecasts that take into account loan installments and subscription services, and applies deep learning techniques to customer transaction behaviors.

2. Efficient economic model that fosters growth beyond the balance sheet

Financial institutions with higher valuations tend to have a 40 to 60 percent lower cost to serve than the average universal bank and four times greater revenue growth. Higher revenues and low costs lead to more value, of course, but a deeper analysis of these leading financial institutions also shows that 55 to 70 percent of their revenues come from origination and distribution, compared with 40 to 50 percent for an average universal bank, and they leverage digital channels to interact with customers two to three times as frequently as the average bank (Exhibit 6).

China’s WeBank, for example, was launched in 2014 and today serves more than 200 million individual customers and 1.3 million SMEs. This growth was achieved without branches and with only 2,000 employees. Profitability is above 25 percent, sustained by a cost to serve of 50 cents per customer—one-thirtieth that of an average bank.

Future-proof business models are less dependent on financial intermediation (and its correlation with interest rates) and more focused on value-added services that generate greater customer involvement and sustainable fees. Businesses like payments or wealth management have a natural advantage, because they gather fees without involving the balance sheet. For banks, the challenge—and opportunity—is to leverage their massive customer base, go beyond traditional banking offerings, and increase revenue by providing value-added services.

Pioneers are already pursuing an ecosystem model of some kind. In 2020, CBA created x15, a wholly owned subsidiary with the mandate to build, buy, or back at least 25 concrete solutions for CBA customers by 2024. Sber is scaling up a non-financial-services ecosystem that in the first six months of 2021 accounted for 4 percent of its overall revenues.2 In 2021, Itaú partnered with cloud software start-up Omie to launch Itáu Meu Negócio, a platform offering nonbanking business management services for SMEs.

3. Continuous innovation and fast go-to-market, leveraging technology and talent

Today’s top performers in providing banking services are valued more like tech firms than banks—a clear sign that banks need to increase their innovation metabolic rate. WeBank launches up to 1,000 updates per month and takes only ten to 11 days to go from ideation to production. Brazil’s digital NuBank is fostering financial inclusion by providing credit cards and personal loans to 50 million customers, most of whom lacked a credit history and thus were not served by traditional banks. NuBank uses behavioral data sets and proprietary algorithms to overcome this obstacle.

For traditional banks faced with more agile and digitally advanced competitors like these two firms, the challenge can seem daunting. And the clock is ticking. As technology and digital adoption evolves, these competitors—as well as the big tech firms—appear to be positioned to continue their upward divergence.

An optimist would note banks’ strong and sizable balance sheets and capital positions, coupled with high levels of trust backed up by decades of customer relationships. Such organizations would seem able to resist any attacker, navigate the upcoming divergence, and wind up on the right side of the divide. A pessimist, however, would claim that it’s a matter of time until fintechs and big techs replace banks as customer owners and financial-services providers, relegating the banks we know today to the role of balance-sheet operators. A realistic view would be somewhere in the middle.

The next few years are crucial for any bank with aspirations to land on the right side of the divergence described in this report. Not only is there simply no value to waiting, but also history shows a pattern in which institutions that take bold steps toward growth in the first years after a crisis generally hold on to those gains for the longer term. The coming years will be disruptive in banking, but this can be a sort of “golden era” for strategic decision making. In the current moment, banks and their many stakeholders can justifiably enjoy some brief satisfaction for having weathered a storm. Then banks must quickly return to forward-thinking action.