Was the first half of the 2017-18 financial year as good as it gets for Australia’s four major banks?
Certainly the usual post reporting season reports suggest so and leading credit rater, Fitch, thinks the big four are faced with constraints on earnings in the next year.
The four big banks (CBA, Westpac, NAB and ANZ) earned statutory half-year profits totalling $15.0 billion for the first half of the 2017-18 financial year – an increase of 5.5% from a year earlier.
But their preferred cash profits fell 1.7% to $15.2 billion, thanks to a combined $1.4 billion in charges taken for regulatory, compliance and restructuring costs.
Westpac did best, according to analysts. Its return on equity (ROE, a key measure for local analysts, big investors and bank managements) rose to 14%, the average ROE for the other majors fell, and the sector average of 13.05% was at its lowest level since 2009.
That’s still a high return when the cash rate is 1.5%, but it is down 365 basis points from its post-GFC high in 2011.
The stockmarket performance in the past week shows us that the CBA is still on the nose – its shares fell 3% and they are now down 12.2% for the year to date and Friday’s close of $70.53 was the lowest January 2013.
The major influence remains the poor publicity from the banking royal commission and continuing fears about the financial fallout of that and the money laundering case brought against it by AUSTRAC.
While Standard & Poor’s reaffirmed the Commonwealth Bank’s ratings it did put the country’s biggest bank on a negative outlook, meaning there’s a one third chance there could be a downgrade within the next year to 18 months.
The Commonwealth’s third quarter trading update last week did nothing to change the opinion of a growing number of investors that there is something in Fitch’s outlook for the sector.
NAB shares were down 2.4% last week and have only lost 3.9% for the year so far, while Westpac shares rose 1.7% last week to be down 5.6% for the year to date.
The best performer last week was the ANZ whose shares rose 2.2% to be down just 2% for the year so far. A month or so ago its shares were down double that and more.
Fitch Ratings remains negative on the big four and last week rammed home its opinion with a warning they face further pressure on revenues and earnings from slowing home lending (as we saw in the March housing finance data on Friday with a 9% slide in investor loans).
Fitch, which has held a negative outlook for the Australian banking sector since the start of 2017, also thinks the banks’ non-interest revenue was likely to remain stagnant or decrease.
“Credit growth, especially in the residential mortgage segment, is slowing and non-interest revenue is likely to remain stagnant or decrease,” Fitch Ratings said. As a result the ratings group reckons the banks will have to raise lending margins to maintain profitability and that looks a challenging prospect in the face of the current royal commission which will run to late this year.
In other reports on the big bank half-yearly result accounting firms, EY, PwC and KPMG all highlighted how higher restructuring and regulatory costs depressed cash profit across the sector over the past six months, forcing banks to go harder on simplification of business models.
The ANZ has been leading the way in selling assets, NAB has been active and will separate its MLC business, the Commonwealth has sold its insurance arm and will spin off or sell its huge Colonial First State asset management business, while westpac has been less active, but has separated itself from BT (now renamed Pendal).
“These results are perhaps the first sign that the ‘ ualitative’ economic, competitive and conduct challenges we have been calling out over the past few years, even in the face of record earnings, are now translating into quantitative financials,” said PwC’s banking and capital markets leader, Colin Heath said in his firm’s report.
The latest bank earnings season was again assisted by ultra low levels of bad and doubtful debts (which helped all four), which fell again despite observations over previous years they couldn’t get any lower. Lower bad debts lifts cash profits, but also works the other way. Net interest margins rose for the CBA, NAB and Westpac in the half year periods, but fell for the ANZ.
Fitch expects the banks’ bad loan charges to increase from their current historic lows in the short term but noted a reduction in the banks’ risk appetite would improve the long-term quality of their loan books.
That reduction in risk will come about via the blowback from the royal commission (banks have already started taking a tougher line on home loans in particular), and the continuing fall in interest only loans and the move by some borrowers to normal principal and interest mortgages also destress loan books.
While the Commonwealth Bank on Wednesday said the number of its home loans more than 90 days in arrears rose in the three months to March 31, from 0.59% of mortgages to 0.65%, Westpac had a different, more relaxed story.
Westpac pointed out in its March 31 half year report that there was “Little change to 90+ day delinquencies over the half” and that “Properties in possession reduced to 398 over the half, out of a portfolio of about 1.6 million loans.”
And banks can’t be hoping for the Reserve bank to help with a well-timed rate rise – official rates are on hold until 2019 and perhaps 2020 (if the forecast from Dr Shane Oliver, the AMP’s chief economist is any guide). he said at the weekend that there is stil a chance of a rate cut if conditions do not pick up.