Australian Banks

[greengiraffe]

Just how good are our banks?

2017 words
12 Nov 2014
The Australian Financial Review
AFNR
English
Copyright 2014. Fairfax Media Management Pty Limited.

Stocks We ask a panel of professional investors about their predictions for banks, what their picks are and how they compare overseas.

The major Australian banks are such a staple investment that shareholders need to check their belief in the sector from time to time. The good times may not last forever – they never do – but the temptation of generous dividends has seen investors push up capital values.

The story for anyone whose portfolio is weighted towards the big banks has been a good one for the past few years, but it is not a time to be complacent.

Are our banks prone to lose value if unemployment increases and property values drop? And could there be better value in international banks?

With full-year results for three of the four major banks delivered in the past two weeks, Smart Investor asked five professional investors for their outlook on the sector. We have included a London-based analyst for perspective on the value of Australian banks ­relative to international peers.

Some investors are heavily exposed to the banks, but the truth is we all are. The big four make up 30 per cent of the S&P/ASX 200. It makes a difference to every one of us how they'll fare.

Many investors hold the Australian banks for income, but what are the prospects for capital appreciation and growth in earnings?

John Grace: In our view, dividend yields between 5 and 6 per cent are ­sustainable and we expect capital appreciation to be broadly in line with mid-single-digit earnings growth, and as such banks offer shareholders a low double-digit total shareholder return.

Dion Hershan: Beyond purely the ­dividend attraction, we see significant prospects for capital appreciation in Australian banks. Current earnings growth between 5 and 8 per cent per annum sets a strong foundation for future capital gains, and we'd expect earnings growth to continue as credit growth improves. Equally, we are encouraged by ongoing productivity gains, low funding costs and low rates of default. The banks offer both high yields and earnings growth upside, which we view as far more compelling than what's on offer at the majority of telcos, listed utilities or REITs.

TS Lim: We anticipate fairly healthy top line and earnings growth of 5 to 6 per cent, consistent with about 2 times expected GDP growth (and down from the pre-GFC highs of 4 to 6 times).

Add to this expected, fully franked yields of 5 to 6 per cent and investors would still attain double-digit returns.

Roger Montgomery: Returns from Australian banks will be more muted than previous years but prices will remain supported while relative yields are superior to cash. Strong credit growth and interest margins will be ­offset by inevitable increases in capital requirements under the Financial ­System Inquiry. If rates rise locally, the appeal of owning banks, at above rational estimates of intrinsic value, declines. And if rates rise globally the global "carry trade", under which ­investors borrow in low-interest-rate countries such as the US to invest in higher-yielding countries such as ­Australia, becomes less attractive.

Thus far, low interest rates locally and ­globally have inflated the multiples of the Australian banks. In time the ­pendulum always swings back.

Xavier VanHove: The dividend story in Australian banks is very strong. It's hard to argue with a 5 to 6 per cent dividend yield, particularly if it's tax-free. I'd like to see banks try to slow their growth to nearly nothing. I would be weary of a bank trying to grow in Australia today. The economy is likely to remain in the doldrums for a while, whilst property prices are not going higher, so a bank can only grow by lowering its underwriting standards, which never works.

How much of a concern are property values to the banks, and should they be a concern to their shareholders?

Grace: Given the banks have large exposures to property, it is important. However, at this stage we don't expect significant credit losses from this segment as a concern for bank shareholders given that underlying fundamentals remain supportive (unemployment, low interest rates, etc). Our expectation is house price growth will stabilise.

Hershan: Complacency around the health of the property market should always be front of mind for Australian bank shareholders, though we believe banks are well protected by prevailing low interest rates, property price ­resilience and a reasonable ­employment market. These factors lead us to conclude the risk of a housing ­bubble contaminating the banks is ­dramatically overstated. Australian banks are well capitalised, lending standards have been prudent and credit quality continues to improve.

Lim: We would not be too concerned about property values, given the very low loan-to-value for the sector of 45 to 50 per cent. Home loan loss rates have been low historically at 0.03 per cent.

Montgomery: Property values are a concern to Australian banks to the extent that rising house prices have a wealth effect that spurs consumption, in turn feeding credit card fee income and home equity drawdowns. QBE and Genworth are more directly exposed to the most leveraged homebuyers.

VanHove: It is a concern. But Australia is not the US in 2007, or Spain, or ­Ireland. More likely we'll see consumers deleveraging and bad loans rising.

What is the biggest risk for bank shareholders and how likely is that to play out?

Grace: The macro-economic environment is the most important driver for the outlook of bank profitability and on balance we believe this remains ­supportive over the forecast period. The largest area of short-term uncertainty is around potential regulatory change and potential outcomes from Financial System Inquiry.

Lim: The biggest risk would be unemployment, although this has been stable recently. As for higher capital requirements, bank capital levels are already stronger than they were pre-GFC and there should be sufficient levers to ­further boost current levels over time.

Hershan: In the short term, the biggest risk facing the banks is probably an adverse set of recommendations from the Financial System Inquiry.

A ­possible risk would be for banks to be required to hold unnecessarily high ­levels of capital, which could threaten earnings growth and/or increase loan pricing.

Montgomery: The key to major changes in the prospects for Australian bank business performance is job losses and interest rates, in that order. Property prices don't fall in the absence of selling; job losses are required. As was observed in many countries during the GFC, collateral values are pro-cyclical, so at the time banks need to monetise collateral the value of that collateral has likely deteriorated significantly.

VanHove: The current cost of [managing] risk in Australia is very low – for example, the cost of managing risk is 16 basis points for CBA – both by historical standards and by international standards. This is not too surprising, given the performance of the Australian economy, which has been one of the strongest in the world and where unemployment has been extremely low. Unfortunately, this is unlikely to last forever.

With commodity prices falling, GDP growth is likely to be more subdued going forward, which always translates into higher bankruptcies, and ­unemployment has been trending up in the past year. This hasn't impacted banks yet as there is always a lag – you don't stop paying off your debt the day you're fired, but you might a year later if you still haven't found a job – but it will very likely translate into a modest tick up in bad debt.

The good news is Australian banks seem to be aware of this and have ramped up their capital and are ­managing their risk-weighted assets conservatively. However, banks are a mirror on the economy, and we are therefore likely to see non-performing loans rise, meaning lower profits.

This is not a huge issue right now, but investors should be aware Australian banks are likely to see non-performing loans rise and therefore profit will struggle to grow – and there is an ­outside chance they even shrink – in the next couple of years.

What is your pick of the bank stocks at current prices?

Grace: NAB is our preference at ­current prices. We are positive on the management change and believe there is substantial upside from resolving outstanding legacy issues.

Lim: We have buys on CBA and NAB at present, although we see emerging value in ANZ.

Montgomery: That's easy, Bendigo & Adelaide Bank Limited. This is because of a unique regulatory situation under which the competitive playing field between the regional Australian banks and the majors is about to become more level. And that excludes the work they are doing with APRA to become an advanced bank.

We believe higher mortgage risk weightings and capital requirements for the majors will result in an improved competitive, market share and profitability position for Bendigo & Adelaide Bank. BEN is materially cheaper than its major peers.

VanHove: If I'd had to pick one, I'd pick CBA as it's the best capitalised and seems to be consciously moderating growth. It does seem somewhat perverse to recommend the most expensive of the lot, given I expect a de-rating, but it also seems least likely to have to do a rights issues in the unlikely case of a more severe downturn – and the probability of that, although low, is not zero.

How do our banks compare with international peers? Should we look for value in other regions?

Grace: While we don't have a mandate to invest outside Australia, We would observe Australian banks are strongly positioned ­compared to international peers; they are some of the highest-rated banks from a credit rating perspective ­globally, have high levels of profitability relative to global peers, strong balance sheets and are well capitalised.

Hershan: We see a number of ­developed markets banks that look attractive, particularly in the US and UK, and holding them can certainly complement Australian bank ­shareholdings. Globally, developed market banks are benefiting from ­similar trends that are playing out ­domestically; improving credit growth, productivity gains, strong credit quality and the prospects of higher interest rates. Australian banks have the benefit of being high yielding and paying franked dividends.

Lim: The market is quick to forget how strong the regulatory environment is in Australia. The ongoing dialogue between the regulatory authorities and domestic banks should only lower overall operating risks.

While there may be value offshore, local bank investors would still be able to look forward to returns above 10 per cent with inherently lower risks.

Montgomery: Relative to international peers, there is no doubt ­Australia's major banks are expensive. Given the regulatory and economic risks on the horizon, over the coming years the highest-returning banks are unlikely to be Australian.

VanHove: Banks in Australia trade somewhere between 2.25 times ­tangible book (for NAB) and 3.3 times tangible book (for CBA).

This is very high by international ­standards. Only banks in strong ­emerging countries with growth in the high teens trade at this price – or did until recently. By comparison, the United States' best large bank, Wells Fargo, trades just below 2 times ­tangible book, and most of them are about 1.3 to 1.5 times tangible book. In Europe banks are cheaper still – at or below ­tangible book value.

Australian banks are quite ­profitable, ­with return on assets about 0.60 per cent, which is well above their European peers but below their US peers. We're quite convinced the value is in Europe. Non-performing loans are high but falling rapidly, as a result return on assets are rising rapidly, banks are now well capitalised and yet prices are low. Also, the recent ­comprehensive assessment by the European Central Bank should give investor confidence that what you are buying is exactly what's on the tin . . . but, yes, it's not for the faint-hearted.

Compiled by Jeremy Chunn


Fairfax Media Management Pty Limited

Document AFNR000020141111eabc0001b

[greengiraffe]

Fitch warns on capital profiles of big four banks
THE AUSTRALIAN NOVEMBER 26, 2014 12:00AM

Michael Bennet

Reporter
Sydney
David Murray AO
David Murray, chairman, financial system inquiry. Source: News Corp Australia

TENSION is building ahead of the Murray financial system inquiry’s final report, with ratings agency Fitch flagging the big four banks may need to raise $53 billion to improve their “about average” capital profiles compared with global peers.

Ahead of the report’s release, potentially in a few days, the ­global agency said yesterday it was highly likely to recommend that the large banks be subject to a mortgage risk-weighting “floor” and a higher “domestic systemically important” (D-SIB) capital charge.

A risk weighting floor would force the banks to reduce leverage in their mortgage books, while a higher D-SIB charge would result in them having to hold more top-tier — and expensive — capital.

Richard Wiles, an analyst at Morgan Stanley, yesterday reiterated to clients that more onerous capital requirements were highly likely. “Australia’s bank capital profiles have strengthened since 2008, though they are about average relative to their international peers,” Fitch said.

“Fitch maintains that additional capital requirements for the four D-SIBs — ANZ, Commonwealth Bank, National Australia Bank and Westpac — would be credit positive.”

While Fitch said the banks were well positioned to meet the additional buffers though internal capital generation, the agency’s comment that capital levels were not overly conservative was notable because it had been at the centre of the heated debate.

The inquiry’s interim report labelled the big four’s capital levels about “middle of the pack” globally. It spurred the big four to commission their own report that disputed the finding and claimed they were actually in the upper quartile.

Under a more aggressive scenario than most analysts expect, Fitch said the inquiry could call for a risk-weight floor of 30 per cent and D-SIB charge of 3 per cent, resulting in a combined capital shortfall of $53bn. But most analysts have pencilled in a mortgage floor of 20 per cent and D-SIB charge of 2 per cent, which Morgan Stanley estimates would require $29bn of capital.

“We would be surprised if the FSI panel, APRA, the RBA and Treasury didn’t reach a broad agreement on how to reduce systemic risks, and we expect the Treasurer to support measures which address ‘too big to fail’,” Mr Wiles said.

David Murray, who is chairing the inquiry, this week refused to reveal when the report would be released by Joe Hockey.

Mr Murray is, however, speaking at a lunch next Monday and market sources suggest the report could be unveiled this weekend.

Mr Wiles added that the banks would be given time to adhere to any new rules. Some analysts, such as Deutsche’s James Freeman, have argued that the market has overreacted to the inquiry. But a senior fund manager said yesterday the banks were privately resigned to a negative outcome. “It’s just a matter of how it gets done, how much capital and how it’s phased in,” he said, declining to be named.

[greengiraffe]

BoQ chairman denies bubble claims
THE AUSTRALIAN NOVEMBER 28, 2014 12:00AM

Michael Bennet

Reporter
Sydney

BoQ chairman Roger Davis and acting CEO Jon Sutton at the AGM. Picture: Adam Armstrong. Source: News Corp Australia
BANK of Queensland chairman Roger Davis has signalled he will soon unveil the lender’s new chief executive and rubbished talk of a property “bubble”, warning that measures to cool the market would harm parts of the economy.

Addressing shareholders yesterday at BoQ’s annual meeting in Brisbane, Mr Davis also joined the throng of small banks urging the Murray financial system inquiry to recommend a reshaping of the rule book so they can better compete with the big four banks.

Market sources told The Australian the government would be handed the final report today.

Unlike other smaller banks, BoQ has not vowed to return the benefits of any favourable outcome from the David Murray-led inquiry to customers.

“We believe strongly that action needs to be taken to address the significant regulatory, capital and funding advantages that were gifted to the big four banks following the GFC, which they have used to increase their market share and power, particularly in the housing market, as well as profits,” Mr Davis said.

“Naturally the big four wish to retain these market gains and it is this desire to protect their privileged position that has been driving the rhetoric that we’ve been seeing from them over the last few weeks.”

While Mr Davis did not single out banks, the chiefs of ANZ and Westpac this month warned that imposing higher capital requirements on the big four would lead to more expensive loans and lower dividends to shareholders.

The big four control slightly more than 80 per cent of various markets, such as the $1.3 trillion mortgage market that has strongly recovered in the past two years.

The pace, led by double-digit annual house price growth in Sydney, has led regulators to warn that they may use “macro-prudential” tools to head off a bubble in parts of the market and damaging economic fallout.

“These are large increases but are confined to one market only,” Mr Davis said. “When coupled with low system growth, these trends — despite local abnormalities — suggest there is not a ­national housing bubble and certainly not in any of the markets where we participate in a major way.”

The housing market is also at the heart of the financial system inquiry, which has expressed concern about the banking sector’s increased exposure over the past 15 years. Small banks have also lobbied for the inquiry to back lowering the capital they must hold against mortgages to ensure a “level playing field”.

After investing in “advanced” modelling systems, the big four and Macquarie can put aside less than half the capital of other banks to write the same under­lying mortgages.

“Clearly this gives the major banks huge advantages,” said acting BoQ chief Jon Sutton.

“We are supportive of any changes that provide better transparency on the risk weightings being applied under advanced models, including limiting the amount that advanced banks can deviate from the standardised ­approach.”

Mr Sutton has been keeping watch since Stuart Grimshaw left in August to take the high-paying job as chairman of US payday lender EZ Corp. Mr Sutton is considered a potential successor, but could face stiff competition from local bankers after recent executive shake-ups at National Australia Bank and Westpac.

“I am pleased to advise we are making good progress in the search, have developed an attractive shortlist, and will make an announcement about a permanent appointment in due course,” Mr Rogers said.

BoQ has been struggling to grow mortgages but Mr Sutton indicated that approvals last month rose more than 20 per cent from the previous month.

“We expect this financial year to be similar to the last. We remain well placed to capitalise on any improvement to the Queensland economy, which will benefit if falls in the Australian dollar can be sustained,” he said. “Subject to macro conditions, we expect sustainable growth in earnings and dividends to continue.”

[BlueKelah]

Obviously biased opinion with conflict of interest.

Earlier in June this year IMF which monitors house prices worldwide has already put australia as third among developed nations on the ratio of house prices to incomes behind Belgium and Canada.

It's official: Australia's property prices are out of whack

IMF also mentions the risk to banking sector.

[greengiraffe]

Taxpayer win if banks become 'big nine'

Christopher Joye
1083 words
29 Nov 2014
The Australian Financial Review
AFNR
English
Copyright 2014. Fairfax Media Management Pty Limited.

The most price-sensitive event to hit Australia's banks since the global financial crisis may be David Murray's financial system inquiry report, due to be published a week on Sunday.

Over the long run, the Murray inquiry could facilitate the emergence of a "big nine" set of banks to supersede the "big four", which would be terrific for taxpayers. This would involve a more even distribution of home-loan market share between the majors and AMP, Bendigo & Adelaide Bank, Suncorp, Bank of Queensland, and Macquarie Bank.

The Murray inquiry could also drive a dramatic increase in major-bank lending to small businesses and companies as the 67 times leverage (or 1.5 per cent equity) they currently employ when lending against Australia's housing market shrinks significantly. More equity and less leverage mechanically yields skinnier returns on home loans, which will making lending to business relatively more enticing.

From a trading perspective, I expect the inquiry will be a material win for smaller-bank equities (that is, everyone except the majors and Macquarie) and big-bank hybrids and bonds. The biggest losers will likely be big-bank shareholders.

Other casualties could be the industry super funds and bank-aligned financial planners.

The major banks are likely to have to hold about 25 per cent to 33 per cent more shareholder capital, which will significantly reduce their leverage. This is targeted at addressing their too-big-to-fail status and the artificial funding cost advantages this implicit government backing imbues. It will be a net negative for major-bank shareholders and could see their valuations correct in the near term.Better-capitalised banks

The flip side of the major banks carrying higher first-loss equity and less leverage is that there is a greater cushion protecting their hybrids, subordinated bonds, senior bonds and deposits. The credit risk associated with these securities falls in lockstep, which means their price should in theory rise. Better-capitalised banks have lower probabilities of default. So as one rating agency, Fitch, argued during the week, the Murray inquiry should be a "credit positive" for the majors as they are inherently less risky propositions.

The cornerstone of the majors' advantage in the home-loan market will also likely diminish and, over time, disappear altogether, which would be a good outcome for competitive neutrality. The majors hold about half the equity capital against home loans that all other banks (except Macquarie) are required by the Australian Prudential Regulation Authority (APRA) to carry to protect them against future loan losses. This means the majors can harness twice the leverage that peers use, which produces vastly superior returns for similar loans with identical interest rates. Murray will sensibly close this gap.

At the same time, smaller banks have the opportunity to migrate towards the housing equity levels the majors use by eventually getting accredited for the "internal-ratings-based approach" to determining capital. The boffins at Macquarie Bank have already done this and Suncorp, Bendigo & Adelaide, Bank of Queensland, and AMP will surely follow.

This implies that over the next decade we will get an industry where all banks are raising deposits at broadly the same cost and making similar returns when they finance home owners.

Accordingly, market shares should be apportioned more evenly.

If smaller banks are permitted to hold the same leverage as the majors when lending against housing, their overall capital could abate somewhat, which would be a "credit negative" for hybrids that would be closer to the automatic capital triggers that swap them into shares. Although smaller-bank bonds would also be subject to the spectre of loftier leverage, this might be mitigated by chunkier profits and superior scale.

The last remaining area where the majors can beat peers is business lending, which offers wider margins than residential mortgages. While business loans do necessitate higher equity capital, and lower leverage, the striking differential in their capital treatment vis-à-vis home loans will compress, which makes business lending more attractive. And the majors have deep credit assessment skills in this domain – essential to minimising losses – that most rivals do not possess.

So as the majors lose home loan market share, they will probably boost their balance-sheet exposures to business lending. This will please the many experts who believe the big four are too dependent on Australia's toppy housing market.

Other Murray recommendations that will impact profits could be the deregulation of default super, which would loosen the industry super funds' grip on the sector while enabling banks to compete much more aggressively; banning leverage in self-managed superannuation funds, which would be negative for lenders and property spruikers; and reinforcing the principle that banks cannot pay financial planners to flog products, which would be a win for independents.Hope that Hockey, Byres will man up

My analysis assumes Murray and his panel have done their jobs properly (which we will not know until we review their final recommendations) and that Treasurer Joe Hockey and APRA chairman Wayne Byres faithfully implement them.

The major banks' hold over APRA, Treasury and the Reserve Bank of Australia – and by implication some media commentators who rely on this "official family" for content – has historically been vice-like, which is why we have ended up with the most concentrated. and implicitly government-subsidised, banking system in the world.

It always looked unseemly when the last two Treasury bosses, Ken Henry and Ted Evans, and the previous RBA governor, Ian Macfarlane, took up lucrative positions as major bank directors within a year of leaving roles in government where they were responsible for overseeing these same institutions.

This is almost as odd as the fact that the $130 billion Commonwealth Bank, which services a small population base, is worth more than globally significant (and in many cases more economically productive) companies like Boeing, Vodafone, Siemens, Volkswagen, McDonalds, MasterCard, Goldman Sachs and Rio Tinto.

If Murray delivers on the inquiry's original promise there is nevertheless hope that Hockey and Byres will man up.

When I advised Hockey in 2010 on the idea for and terms of reference of this inquiry, he was hell-bent on dealing with the problems of too-big-to-fail banks.

APRA chairman Byres has likewise displayed a refreshing frankness about the challenges facing our financial system and does not seem nearly as eager to defend the status quo as predecessors. That honesty will benefit us all.


Fairfax Media Management Pty Limited

Document AFNR000020141128eabt0000x

[greengiraffe]

Savers hit as banks cut interest on deposits
THE AUSTRALIAN DECEMBER 04, 2014 12:00AM

Michael Bennet

Reporter
Sydney
Savers hit as lenders cut interest
Bank savings are attracting less interest. Source: News Limited
SAVERS socking away cash in the bank continue to be punished amid low official interest rates, with the dominant banks lopping returns on an array of savings accounts.

As the Reserve Bank this week kept the cash rate on hold, data from Canstar provided to The Australian showed the big four banks have chopped interest rates on online saving accounts by up to 11 basis points in the past three months.

Commonwealth Bank, the nation’s largest, has dropped the “three-month” introductory deal on its NetBank Saver to 3.7 per cent from 3.81 per cent in September.

Westpac and National Australia Bank have cut their equivalent products to 3.71 per cent and 3.5 per cent, respectively.

The accounts — which have become increasingly popular in recent years — pay base rates of 2.5 per cent after the bonus periods end, which haven’t changed.

The four big banks have also sliced one-year term deposit rates to 3.15-3.2 per cent, pressuring investors to look elsewhere, such as the sharemarket and property, experts say.

Despite soft wage growth and jittery confidence, the government’s recent $5.7 billion float of Medibank Private attracted massive interest from the general public.

Retail shareholders with brokers bid for $12bn of Medibank shares, forcing the government to scale them back and allocate only $1.5bn.

“It’s increasingly difficult for savers to break even on their savings; for most, once tax and inflation are taken into account, they are going backwards,” said a Canstar spokeswoman.

Consumers could be in for more pain, with the banks likely to pass on any higher capital requirement cost flowing from the Murray financial system inquiry through higher borrowing rates and lower deposit offers.

“The banks have been easing rates on term deposits for some time as funding markets have thawed and wholesale funding costs have improved. We would expect the banks to further reduce deposit rates,” UBS analysts said in a report on the inquiry, which will release its final report on Sunday.

Goldman Sachs yesterday forecast that the RBA would lower the cash rate to 2 per cent next year.

Competition peaked in the aftermath of the global financial crisis as the banks raced to comply with new regulations, but they no longer have to pay as much for savings.

But competition remains strong, with Canstar saying smaller rivals Citibank, ING Direct, Bank of Queensland and P&N Bank are offering online savings accounts paying an interest rate of up to 4 per cent, including the bonus rate.

The big four are also using their subsidiaries more aggres­sively, with CBA-owned Bankwest paying 3.75 per cent.

The major banks have not been getting a major boost to margins from lower deposit rates because of hot competition to write mortgages.

[greengiraffe]

Still subjected to more consultations...

The Kway Lapis will eventually get more layers of confusion for future generations...

Murray Inquiry: major banks facing $20bn squeeze
THE AUSTRALIAN DECEMBER 08, 2014 12:00AM

Michael Bennet

Reporter
Sydney

THE major banks have been urged to raise at least $20 billion to slash leverage and boost capital levels to globally-leading levels, setting them on a collision course with government, regulators and investors after previously warning stricter rules would be worn by consumers and shareholders.

Releasing the most sweeping review of the nation’s financial architecture in almost two decades, David Murray yesterday said the big four must have higher capital levels — preferably through top notch, but expensive, common equity tier-one (CET1) capital — so that they are “unquestionably strong”.

Despite intense lobbying by the banks that they are among the best capitalised in the world, the Murray financial system inquiry deemed the big banks were “not currently in the top quartile”, where CET1 ratios were up to 2.2 percentage points higher.

It also recommended the big four be subject to sharply higher “risk weights” on mortgages of between 25-30 per cent, potentially shaking up the $1.3 trillion mortgage market by ensuring “competitive neutrality” for smaller banks.

Start of sidebar. Skip to end of sidebar.

MORENegative gearing in firing line
MOREBanks spared with focus on nest eggs
MOREModest tweaks a tribute to the system
End of sidebar. Return to start of sidebar.

Notably, the report said the “small” cost to the economy was outweighed by the benefits, given Australia relied on funding from offshore and that the favourable conditions to respond to crises may not be present in the future.

FINANCIAL SYSTEM INQUIRY: Final report

The imposts would require the big banks to raise about $20bn, Boston Consulting Group said yesterday, putting intense focus on the banks’ share prices today.

While all banks would be subject to higher capital levels, the mortgage rule changes for the big banks alone would be a $14bn blow, analysts say.

“The banks appear to have lost the debate on capital levels,” said Credit Suisse analyst Jarrod Martin, adding the majors would ultimately have to increase total capital levels through both “higher capital ratios and a mortgage risk weight floor”.

Mr Murray conceded the proposals could reduce the banks’ returns or raise costs, but rejected warnings about higher lending rates as “wildly above” reality.

The inquiry estimated a one percentage point increase in CET1 ratios would increase lending rates by less than 10 basis points.

“We are very fortunate in the Australian system that bank returns are very, very strong, dividend payout ratios are high. So, there is room for a lot of adjustment,” said Mr Murray, a former Commonwealth Bank chief.

The banking industry flagged it would continue its fight to “close the gap” on its view on capital levels and the banking regulator’s, the Australian Prudential Regulation Authority.

“This a long game. We don’t give up easily,” said Steven Munchenberg, chief of the Australian Bankers’ Association, adding “knee-jerk reactions” to the inquiry’s recommendations would be unwise.

“It would be important for the industry, the market and APRA to at least broadly agree where the starting point (on capital) is.”

Westpac and CBA said they were analysing the findings, while ANZ criticised the proposed risk weight changes as “at odds” with global regulation.

The inquiry, the first in 17 years, will consult until March 31. Joe Hockey said he expected bipartisan support, but APRA would be charged with implementing changes.

A spokesman for the banking regulator said it would consider the report including international developments, particularly work under way by the Basel Committee on the variability of risk weights generated by banks around the world.
“We’re not going to be able to announce anything before the Basel Committee ends their consultations (next year),” he said.

But new APRA chairman Wayne Byres recently warned of the “increasing lack of faith” in internal models used by large banks to calculate risk-weights and that there was “scope to further improve the resilience” of the Australian banking system. After investing millions of dollars on “advanced” internal modelling systems, the majors generate average risk-weights of 18 per cent, requiring less capital than small banks using the “standardised” approach that generates risk weights of 39 per cent.

A 20 per cent risk weighting floor would require the big four to raise $14bn in capital, with Westpac the most affected followed by CBA, according to Morgan Stanley. An additional one percentage point of CET1 would require a further $15bn.

Omkar Joshi, an analyst Watermark Funds Management, said the banks would likely wait until the outcome of the consultation period “before doing any outright capital raisings”. “It’s likely they will implement on market issuances for dividend reinvestment plans and DRP discounts.”

[greengiraffe]

Murray Inquiry: Risk-weight changes a bonus for regional banks
THE AUSTRALIAN DECEMBER 08, 2014 12:00AM

Michael Bennet

Reporter
Sydney

Suncorp banking boss John Nesbitt. Source: News Corp Australia
SMALL businesses will be the big winners from the hiking of the big four banks’ mortgage “risk weights” as the relative appeal of pouring cash into the hugely profitable $1.3 trillion home loan market is diminished, according to Suncorp.

As small banks applauded the Murray financial system inquiry’s report, Suncorp Bank chief John Nesbitt labelled as a “furphy” claims by the big four banks that hitting the dominant players with higher capital requirements would lead to more expensive loans.

“There’s a lot of noise around increasing costs to consumers, which is a complete furphy. The market is competitive where it’s sitting today but what we’re arguing for is for it to be a lot more competitive,” Mr Nesbitt told The Australian.

The Customer Owned Banking Association also welcomed the move to iron out the “anti-competitive distortion” and said the big four were trying to “bully the government” in warning of higher consumer costs.

FINANCIAL SYSTEM INQUIRY: Final report

The comments come after ANZ recently warned that doubling the common equity tier one (CET1) capital charge on “systemically important” banks, plus imposing a risk weighting floor of 20-25 per cent, could raise the cost of all loans by 50 basis points.

Westpac also warned the big four could cut dividends.

In a blow to the major banks, the David Murray-led inquiry followed through with a recommendation that the big four banks be subject to higher mortgage risk weights of between 25 and 30 per cent to ensure “competitive neutrality” in the market.

It also rubbished the major banks’ claim that higher capital would result in rising consumer prices, arguing increasing CET1 ratios by one percentage point would increase lending rates by less than 10 basis points and reduce GDP by 0.01-0.1 per cent.

After investing hundreds of millions of dollars in “advanced” modelling systems, the major banks generate average risk-weights of 18 per cent, compared to 39 per cent for small banks like Suncorp that in turn have to hold more capital against home loans.

“We were looking for the difference between the big banks and the rest of market to be narrowed, particularly in relation to mortgages where the risks are quite consistent across the market,” said Mr Nesbitt.

“I think the direction of it is good for the market, the regional banks and the market generally, so we’re pleased with where it’s landed. The real benefit here is going to be for small to medium enterprises across Australia, where there’ll be an encouragement to lend into that area, which is good for employment and growth.”

ANZ Bank depute chief Graham Hodges said increasing risk weights on major banks for competitive reasons “appears at odds with Basel’s risk based approach to regulation”.

The potential change appears the second best outcome for the regional banks, which had lobbied for lower risk weights. Nevertheless, Macquarie analyst Mike Wiblin said increasing the majors’ risk weights would be positive for the regionals. The regionals didn’t get it all their way and will be subject to the inquiry’s call for higher overall capital in all banks.

The report was less specific on changes to the CET1 rules and indicated raising risk weights for the majors was equivalent to an additional 100 basis points of CET1.

Mr Nesbitt urged the banking regulator impose the risk weighting changes “sooner rather than later”.

[greengiraffe]

Banks will be tied to global rule changes, analysts warned
THE AUSTRALIAN DECEMBER 08, 2014 9:14AM

Michael Bennet

Reporter
Sydney
DAVID Murray’s financial system inquiry has left Australia’s big four banks at the whim of constantly changing global capital rules, analysts say.

“By targeting a dynamic benchmark, there is a risk the Australian banking system enters a global ‘race to the top’ of capital levels,” said UBS analyst Jonathan Mott, adding offshore banks were likely to continue to build capital through 2015-16.

“The outcome of this may be higher capital requirements than the market expected, to achieve an ‘unquestionably strong’ system.”

BENNET: Majors face $20 billion squeeze

KOHLER: David Murray has gone rogue

GOTTLIEBSEN: Eight ways Murray could transform Australia

DURIE: Banks spared with focus on nest eggs

Analysts at Goldman Sachs and Merrill Lynch agreed making the banks “top quartile” globally tied them to changes in various economies and that it remained unclear how, and if, the Australian Prudential Regulation Authority would implement the inquiry’s recommendations.

But Mr Murray, a former Commonwealth Bank chief, yesterday said the banks must be among the strongest in the world because Australia relies on funding from global capital markets and the economy would not be able to respond to future crises as well as it did to the global financial crisis.

Several experts agreed the banks could not afford to fall behind global rivals.

Ahead of the stockmarket opening today, Goldman and Merrill breathed a sigh of relief and told clients that the up to $32 billion in capital the “big four” banks might need to raise due to the inquiry’s recommendations was not as bad as feared.

Andrew Hill, Merrill’s lead banking analyst, said while the inquiry’s recommendations left “some uncertainty” around the banks’ key capital ratio targets, there was “no pressing near-term need” for the banks to raise equity from shareholders.

He added the proposed higher “risk weights” on mortgages could entirely boost the big four’s common equity tier one (CET1) capital requirements by between $13 billion and $21 billion and that the inquiry suggested this should be taken into account when considering changes.

“We think the stocks should rally in response,” he said. Merrill believes the banks will need to raise between $9 billion to $32 billion, compared with its initial fears of $19 billion to $52 billion.

Goldman’s Andrew Lyons agreed “the risk of a more onerous outcome is now gone” and the banks will be able to raise his estimated $25 billion shortfall through their dividend reinvestment plans.

He added the majors “have a good track record of offsetting the returns impact of additional capital”.

Mr Lyons said the report might also spur deal making, given National Australia Bank, ANZ and Commonwealth Bank have options to raise capital through asset sales.

After a year of probing the system, the Murray report yesterday said the big four must have higher capital levels — preferably through top notch, but expensive, CET1 — so that they are “unquestionably strong”.

Despite intense lobbying by the banks that they are already among the best capitalised in the world, the Murray financial system inquiry deemed the big banks were “not currently in the top quartile”.

It said the major banks’ CET1 ratios were at 10 per cent to 11.6 per cent, compared with the top quartile at 12.2 per cent.

The report also recommended the big four be subject to sharply higher “risk weights” on mortgages of between 25 to 30 per cent, potentially shaking up the $1.3 trillion mortgage market by ensuring “competitive neutrality” for smaller banks.

[greengiraffe]

Murray report: Pressure to adopt reforms ramped up
THE AUSTRALIAN DECEMBER 08, 2014 3:39PM

Michael Bennet

Reporter
Sydney
DAVID Murray has warned ignoring moves to strengthen the banking sector as the mining boom winds down and the budget was strained risked making foreign investors “extremely nervous”.

A day after releasing his report that called on the big four dominant banks to increase capital levels so they were “unquestionably strong”, Mr Murray called for the inquiry’s recommendations to be embraced in the national interest.

While regulators could choose not to change the banking system and no economic shocks may occur for some time, Mr Murray warned that when the inevitable crises came “the credit rating position of the Commonwealth government at the time would become very relevant”.

Speaking at a CEDA lunch in Sydney today, Mr Murray said crises in other countries such as Britain had shown to increase government debt positions by 50 per cent in a “very short period of time”, which could be amplified when bank debts also turn bad.

Start of sidebar. Skip to end of sidebar.

MOREBanks will be tied to global rule changes
MOREDavid Murray has gone rogue
End of sidebar. Return to start of sidebar.

GOTTLIEBSEN: Eight ways Murray could transform Australia

DURIE: Banks spared with focus on nest eggs

Along with a nation’s debt-servicing position, Mr Murray said ratings agencies assessed the contingent liabilities in the banking system and “if those tend to deteriorate at the same time, the government could be put in quite some spiral to the extent where foreign bondholders become extremely nervous”.

“We don’t want such a spiral,” he said, adding Australia’s debt to GDP ratio of 22 per cent could creep up towards the 30 per cent level which ratings agencies use as a cut off for AAA ratings.

“If it becomes more and more difficult to handle the end of the mining boom with the fiscal consequences for that on government, then we’re going to start incrementing this (debt to GDP) by one or two percentage points a year and the rating agencies will take a forward-looking position and reduce that rating,” he said.

“At first that’s not necessarily a serious issue, because around the world there’s not a huge discrimination between AAA and AA borrowers,” Mr Murray said.

“But the cost of credit could raise by 10-20 basis points on the back of that and the lower Australia’s rating is going ... the more likely it is you get into that spiral and that’s what we don’t want.”

The inquiry made 44 recommendations to government, which will consult until March 31.

On banking reform, the Australian Prudential Regulation Authority will be tasked with implementing changes.

APRA chairman Wayne Byres was in attendance at Mr Murray’s speech in Sydney today.

But APRA has indicated it will not rush and will wait for a global review on “risk weightings” to end later next year before imposing the inquiry’s recommendation of forcing the big four banks to hold more capital against mortgages through minimum risk weights of 25 to 30 per cent, up from around 18 per cent.

The inquiry also called for all banks to hold more capital and Mr Murray said it was critical Australia remained appealing due to its reliance on funding from overseas.

While conceding Australia’s experience during the global financial crisis “makes it very difficult for Australians to empathise” with the depth of loss in other countries, he said “the circumstances that shielded Australia from the crisis will not recur”.

“We had very high terms of trade, negligible net government debt, a budget surplus, a triple A credit rating, a record mining investment boom, and a major trading partner growing in real terms at an annual rate of around 10 per cent and able to throw immense resources at a stimulus program that favoured our exports,” he said.

“For all these reasons we need to maintain credibility among foreign investors and have an unquestionably strong banking system. The marginal cost of achieving this is small relative to the economic and social cost to the country and to taxpayers when a crisis occurs in less favourable circumstances than the last one.”