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Australian bank returns to shrink on extra low rates, competition

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Returns from Australia's biggest banks are heading towards the single digits for the first time in more than two decades, pushed down by record low interest rates and increased competition from smaller lenders and foreign players, analysts said ahead of second-half earnings reports.

[SYDNEY] Returns from Australia's biggest banks are heading towards the single digits for the first time in more than two decades, pushed down by record low interest rates and increased competition from smaller lenders and foreign players, analysts said ahead of second-half earnings reports.

The so called "Big Four", once the envy of banks around the world because of their high returns, are widely expected to report a second consecutive fall in full year cash earnings, weighed down by one-off customer remediation charges totaling almost A$5 billion (S$4.64 billion).

Commonwealth Bank of Australia already reported a second consecutive annual profit fall, missing expectations as rising costs and falling rates ate into margins, and the other three majors are expected to post similar results in the coming days.

"They had a really good period post the GFC (global financial crisis) from a credit growth and competition perspective, combined with an incredibly strong housing market, but they are facing a whole range of headwinds now," said Andy Forster, Senior Investment Officer at Argo Investments, who holds positions in all four major banks.

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Ultra low interest rates, higher capital requirements, and competition in a low credit growth environment are all expected to push returns lower in coming years, Forster added.

Banks have delivered ROEs of more than 20 per cent in the years that followed the global financial crisis and currently yield returns of about 12 per cent.

Analysts expect Australia and New Zealand Banking Group to report full-year flat cash earnings of A$6.5 billion ($4.43 billion), or a ROE of about 10 per cent, when it becomes the first of the remaining three Big Four banks to report on Thursday.

National Australia Bank is forecast to report a 25 per cent fall in second half cash earnings to A$2.1 billion on Nov 7, according to analysts, which would translate into a ROE of about 9 per cent.

Westpac Banking Corp, meanwhile, is targeting a ROE of up to 14 per cent, but analysts expect it to report A$6.9 billion ($4.7 billion) in full year cash earnings on Nov 4 - closer to a 10 per cent ROE.

"We believe that Westpac may abandon this and adopt a lower target of about 11-12 per cent," UBS analysts said in a note.

LOW INTEREST RATES

Government interest rates, which are used worldwide as benchmark risk-free rates, have shrunk sharply as central banks take action to stimulate their economies.

The Reserve Bank of Australia this year cut the cash rate to 0.75 per cent from 1.25 per cent, hurting bank margins given they are unable to reduce deposit rates to offset the cheaper mortgages they must offer borrowers.

"Sub 10 per cent RoEs make complete sense when the cost of equity is approaching 8 per cent," said Evans and Partners banking analyst Matthew Wilson.

While the Big Four still dominate about 80 per cent of the home loan market, non-bank lenders and foreign banks are growing their mortgage businesses, taking advantage of the regulator's spotlight on the big banks in the aftermath of a misconduct inquiry.

In the 12 months to June, HSBC, ING Bank, Macquarie Group and Citigroup have grown their mortgage loan books by 14 per cent, according to UBS.

REUTERS