Greek banks were the darlings of the international investment community for the last four years or so but this is no longer the case. Their shares have been hammered since the beginning of the year and many wonder whether they can regain their foothold in a more challenging environment in Greece and abroad. At the bottom of the stock market in March 2003, the word started going around in the City of London among fund managers, analysts and even journalists working for some of the most prestigious world financial newspapers and magazines. «Take a look at Greek banks.» Few believed it at first but the ranks of the believers started swelling as the story of Greek banking growth began to unfold, with local banks producing excellent financial results that beat market consensus estimates quarter after quarter. It turned out to be a good guess. Greek banks had relied heavily on trading gains during the heyday of the Athens bourse and the rally in Greek bonds as the country headed for the eurozone in the late 1990s to boost their profits. When the stock market bubble burst, banks saw their earnings take a tumble. However, assisted by the sharp deceleration of inflation and the country’s entry into the eurozone, Greek banks were able to offer households and businesses the lowest lending rates for generations. This, coupled with Greece’s strong GDP growth, paved the way for spectacular, double-digit volume growth rates. In 2003, earnings from retail banking operations, namely consumer, mortgage and corporate loans, more than offset losses in trading gains, putting their finances on a positive path. This made their first believers extremely happy and made the bank-heavy Athens bourse the second best performing among world developed markets. Fund managers were spreading the word to their colleagues in the offices of London’s financial district during the day and the pubs and bars at night. In 2004, the shares of Greek banks were trading at a premium to the European banking average in terms of the P/E (price-to-earnings) multiple for the first time since Greece joined the club of developed markets. In addition, a new component was added to the growth phenomenon. Namely the expansion of banks in the fast growing markets of southeastern Europe. Trouble ahead? However, these developments – which obviously paid well as bank share prices doubled, tripled or even quadrupled since the bottom of the market in March 2003 – now appears to be in doubt. Greek bankers have seen their stock drop sharply, although they have continued to deliver good financial results both in 2007 and the first quarter of 2008. Of course, a careful look at the dismal stock performance last year of Austrian banks, which share some of the growth characteristics, should have alerted them to what was coming. Indeed, the analyst and investor community has not really downgraded the earnings per share forecast estimates of Greek banks to reflect stock losses of 20 or 30 percent year-to-date. What has happened is simple: Greek banks have been de-rated, that is, they are trading at a lower P/E multiple, due to financial woes facing the banking sector worldwide and their own exposure in the fast growing but much riskier countries of southeastern Europe. The shares of National Bank and Eurobank have been hit harder than competitors Alpha Bank and Piraeus Bank since the start of the year and this is no coincidence. Investors regard both as the most exposed in this part of the world, with National Bank deriving some 30 percent of its net consolidated income from Turkey after the acquisition of Finansbank. Although Alpha Bank and Piraeus Bank also have a presence in the region, they benefit from two different perceptions. Investors and analysts point out that Alpha Bank is regarded as more conservative in its approach while also benefiting from the view that it may be an acquisition target down the road due to its high free float. Piraeus Bank is thought to be a safer option because it is growing faster in the Greek market, which is less risky. Piraeus also has a relatively larger small-and-medium firm loan portfolio which is easier to reprice, that is, raise lending rates to compensate for higher funding costs. The majority of bankers and investors think the second- and third-quarter results of the large Greek banks will show whether they can withstand the pressures of the credit crisis at home and abroad, signaling a rebound for their stocks. Even so, it is unlikely that their shares will be able to rally without a pick-up in world investor risk appetite later this year.