Economics and Banking – Page 472 – Digital Finance Analytics (DFA) Blog

Whilst Bank Margins Improve Significantly, Most Households Do Not Benefit

Using the updated RBA chart pack data, we can see the movements in deposits, lending and funding, all elements impacting bank profitability and their customers. We see that funding costs are down, deposit returns are down, whilst headline lending rates are static. This is creating an opportunity for banks to discount selectively to attract target housing lending. Looking in more detail, margins on personal loans have increased, with no change to the average rate since 2012, despite the fall in funding costs and the target rate since then. Average mortgage rates have not changed since September 2013, again despite falls in funding costs. Deposit rates have been falling recently as can be seen from the chart. Small business lending rates are still very high. This is creating significant profit for the banks.

In addition, wholesale bank funding costs are lower than they have been since 2007, and we are even seeing improvements in the costs of securitisation, as well as debt based funding. We recently published an update to our series on mortgage discounting, and we highlight again the wide range of margins available depending on the particular transaction involved. Large home loans, and investment property loans appear to attract the biggest discounts. Small business on the other hand find it hard to get any reduction in interest rates.

Those with the capacity to switch have the potential to negotiate quite a discount, but those unwilling or unable to switch are unable to take advantage of the lower rates, so continue to be locked into high rates, which flow direct to the bank’s bottom line. And remember, according to the BIS, we have some of the most profitable banks in the western world. Clearly competitive tension is insufficient to drive down margins for most households. I will be interested to see if the current Financial Sector Inquiry discusses the question of completion in banking as it looks to me to be a major issue, which is costing Australia Inc, dear. Banks were quick to put their rates up when needed, but the reverse is not true.

Banco Santander to refer small UK businesses to peer-to-peer lender

Further evidence of the continued importance of peer to peer lending is highlighted by the news that Spanish based bank, Banco Santander will start referring small UK businesses to peer-to-peer lending service Funding Circle as part of a new partnership between the two firms. As we highlighted in our recent review of the development of peer to peer lending, Funding Circle is an online marketplace for business loans aimed at small companies. Funding Circle, as a quid pro quo will point customers to Santander for day-to-day banking services such as advice, cash management or expertise.

“SMEs need access to multiple sources of finance, and Santander’s partnership with Funding Circle is a good example of how traditional and alternative finance can work together to help the nation’s SMEs prosper,” said Santander UK CEO Ana Botin. “Peer-to-peer financing is also a useful way to introduce people to the concept of investing in entrepreneurs; an important element in a healthy enterprise economy.”

So far Funding Circle has lent £306m to more than 5,000 businesses. The company says the opportunity is still massive, citing research estimating that some 250,000 businesses could qualify for alternative funding in the UK each year. The model has piqued the UK government’s attention, with the British Business Bank, which it backs, investing GBP60m (USD101m) to fund 10% of all business loans made on Funding Circle. This offers an alternative channel to funding to businesses which find it difficult to obtain financing through traditional channels. The traditional British banks seem unwilling to provide sufficient credit to small and medium-sized enterprises (SMEs) and the UK government is considering making it compulsory for them to direct failed loan applicants to alternative institutions, such as peer-to-peer lenders.

Funding Circle include the following facts on their web site (correct as at 1 May 2014):

~30,000 active investors registered with Funding Circle
The average amount an active investor has in their account is £6,000
Average net return is 6.1%* after fees and bad debt but before tax
Investors recently exceeded a total lending of £270 million
£130 million of this total was lent in 2013 alone
4,000+ businesses have borrowed via Funding Circle
More than £20 million lent to small businesses every month

Average loan amount is approximately £60,000
Approximately 1.4% bad debt ratio
The peer-to-peer lending industry is tripling in size each year, and has the potential to become worth over £12 billion per year within a decade according to independent research by Nesta
The top three platforms alone have already completed almost £1 billion of lending to date and will help lend another £1 billion over the next 12 months

Detailed Funding Circle Statistics are available here.

Will The Next Rate Movement Be Down?

Today Glen Stevens spoke at The Econometric Society Australasian Meeting and the Australian Conference of Economists in Hobart. He gave an economic update, and included a number of messages which when taken with economic data from the ABS today, suggests that interest rates may be cut later in the year.

Here are a few of his points:

“the most recent set of GDP figures, while certainly encouraging, probably overstate somewhat the true ongoing pace of growth in the economy. The Bank’s forecasts from early May, which we have not materially changed, embody ongoing growth but, in the near term, probably a little below trend”.

“The cash rate measured in ‘real’ terms is approximately zero. In either nominal or real terms the cash rate is well below ‘normal’ levels, and comfortably below even the mooted lower ‘new normal’ levels. Moreover, we still have ‘ammunition’ on interest rates – we have not got close to the zero lower bound that has afflicted some other countries”.

“Now, the terms of trade are falling, and the investment part of the boom has peaked. Mining investment, as a share of GDP, has probably already declined by about 1 percentage point, and is expected to fall by another 3 or 4 percentage points over the next few years”.

“Consumer demand has been rising moderately, even if recently perhaps a little more slowly than it did over the summer. Residential construction is moving up strongly, and intentions to invest outside the resources sector have started to improve, from very subdued levels. The labour market has also shown some early indications of mild improvement. But these signs remain early ones”.

“the exchange rate remains high by historical standards. There is little doubt that significant parts of the trade-exposed sectors still find it quite ‘uncomfortable’: it continues to exert acute pressure for cost containment, productivity improvement and business model change. When judged against current and likely future trends in the terms of trade, and Australia’s still high costs of production relative to those elsewhere in the world, most measurements would say it is overvalued.”

” if we think there is a need for higher construction, which we do, an environment of declining prices is probably not conducive to that outcome. Some pick-up in housing prices as a result of lower interest rates was to be expected; it shows that monetary policy is working and is part of the normal transmission process”.

“investors should take care in the Sydney market, which is the main area where a large increase in borrowing has been occurring. The total value of credit approvals for investor loans in New South Wales as a whole is about 130 per cent higher than in 2008, and it is in the investor segment where there has been evidence of some increase in lending with loan-to-value ratios above 80 per cent in the past couple of quarters”.

“in forming expectations about future price gains and deciding their financing structure, people should not assume that prices always rise. They don’t; sometimes they fall”.

“banks and other lenders need to maintain strong lending standards. APRA has helpfully been reinforcing this point directly with bank boards, as well as stressing the importance of having adequate, higher, interest rate buffers in place, given the current very low level of rates in the market.”

“Overall, the Bank has not seen developments in the housing market as warranting higher interest rates than the ones we have had, in the current circumstances.”

So the bank is happy with the housing market, concerned about the exchange rate, and thinks growth will be below trend. The ABS data today showed Retail spending down a tad, and building approvals were down in current terms. Given the comment that there is room to cut further, a reduction in the benchmark rate looks quite likely.

But then the BIS Annual Report contained a waning that ultra low interest rates are not necessarily effective, and may themselves lay the foundations on the next global financial crisis. If rates were to be cut further, the case for deploying macroeconomic measures to control house prices would become even stronger.

Credit Card Lending Portfolio Data to May 2014

Continuing our analysis of the APRA monthly banking statistics, today we execute a deeper dive into the credit card portfolios. The $40.5 billion portfolio is relatively static, fluctuating by about $200m in recent months. As we highlighted, previously, CBA has the biggest share, and Citigroup is the 5th largest player.

We can show the relative share trends as a percentage of total book. CBA has 28% of the market, and Westpac 23% – together holding more than half the market. Macquarie is a small, but growing player, as we will see in a moment. Citigroup’s share dropped just a little.

So. lets look at the changes in more detail. Here are the movements by percentage change of individual portfolios. Thanks to Macquarie’s acquisition of HSBC’s Woolworths white label credit card portfolio for $362 million in May, we see a significant swing away from HSBC, to Macquarie, who more than doubled their portfolio in the transaction. HSBC released a statement saying it was still committed to the Australian market, but the Woolworth agreement would terminate, although they would continue to provide card services through to 2015.

Looking at the data another way, in portfolio dollar terms, we see CBA growing a little, whilst nab, ANZ and Citigroup fell in May. The Macquarie transaction also shows up clearly. Overall in May the total across all banks fell just over $200 million.

So, we see household card debit is quite constrained at the moment. We also see Macquarie extending its reach across retail banking, including mortgage lending, and credit cards.

RBA Leaves Cash Rate Unchanged; Again.

At its meeting today, the Board decided to leave the cash rate unchanged at 2.5 per cent. “Monetary policy remains accommodative. Interest rates are very low and for some borrowers have edged lower over recent months. Savers continue to look for higher returns in response to low rates on safe instruments. Credit growth has picked up a little, including most recently to businesses. Dwelling prices have increased significantly over the past year, though there have been some signs of a moderation in the pace of increase recently. The exchange rate remains high by historical standards, particularly given the declines in key commodity prices, and hence is offering less assistance than it might in achieving balanced growth in the economy. Looking ahead, continued accommodative monetary policy should provide support to demand and help growth to strengthen over time. Inflation is expected to be consistent with the 2–3 per cent target over the next two years”.

“A strong expansion in housing construction is now under way. At the same time, resources sector investment spending is starting to decline significantly.”

Home Lending Portfolio Analysis To May 2014

Following on for our analysis of the APRA monthly banking statistics, today we explore some of the detail in the home loan statistics. The data shows the net monthly movement by lending institution, split by owner occupation and investment lending. We dropped a few of the smallest players from the data to make the picture clearer. We see some interesting segmental trends. First, lets look at the major changes amongst the main lenders between April and May. The most significant element relates to the CBA portfolio where there appears to be a big swing to investment lending (is this changes in policy, or a data coding issue?). Westpac continues to grow its investment portfolio so, We think CBA may be hunting investment loans more aggressively, but its a big monthly swing.

Now looking at the loan portfolios from January to May, we see again Westpac leading the investment lending, and we see CBA’s uptick in May, offset by a fall in owner occupation lending.

Another way to look at the data is by percentage movement, this view shows the change at the portfolio level, the sum of investment and owner occupied loans. It is worth highlighting the Macquarie Bank growth, much higher than system growth. Bendigo had quite a spike, and AMP had a bad March. What we do not know is how much is a data problem, and how much is a real response to business strategy and execution.

We can also split the data by loan type. This the owner occupation trend, note that at a marker level, it fell slightly overall in May. We see the fall at CBA in May, the spike at Bendigo, the consistent growth at Macquarie and the AMP hiccup.

Turning to the Investment Loan portfolio, the CBA spike shows clearly, the Macquarie Bank growth spurt, the growth at Members Equity, and strong overall spike in investment lending.

We should await the next months data, because the CBA data movements would mask, or change the outcomes. Our own data suggest investment lending is not as strong as suggested by the APRA data.

BIS Banking Benchmarks – Where Australian Banks Stand

The BIS published their 84th annual report 2013-14 recently. As well as discussing the merits of central banks relying on low interest rates to try and drive recovery from 2007, and the risks in this strategy with regards to laying the foundations for GFC mark II thanks to expanding credit; there is some interesting data on relative bank performance across several countries. We will focus attention on this data, recognising of course that making cross country comparisons is fraught with dangers because of differences in reporting. That said there are some interesting points to consider. We look at Profitability, Net Interest Margins, Losses and Costs. In each case, I have sorted the countries by the relevant 2013 data, to highlight where Australia appears relative to its peers. The data shows the number of major banks in each country, and they have averaged the results, giving three cuts of data, 200-2007, 2008-2012 and 2013. All the BIS metrics are calculated relative to total bank assets.

Lets first look at relative profitability. We see that Russia, China, Brazil and India all reported profitability higher than the Australian banks. However, Australia has the most profitable banks amongst advanced western countries, and is significantly more profitable than banks in Canada, Germany and UK. It is also worth noting that in Australia, banks are still not as profitable, relative to assets as they were before the GFC. But then, that is pretty consistent across the sample countries.

So, what is driving relative profitability? Could it be net interest margins? Well, comparing margins relative to assets, Australia is somewhere in the middle, the highest margins are returned from Russia and Brazil, the lowest margins from Switzerland and Japan. Margins in Australia are however higher than Canada, Italy, UK and France. Higher margins, in my view reflect limited real competition, and we know that Australian banks have been repairing their margins by not passing on recent lower funding costs to borrowers, or savers. Small business customers are being hit quite hard. So, banks in Australia are more profitable thanks to higher margins, in a relatively benign environment competitively speaking.

Lets look at losses. Here Australian banks have some of the lowest loss rates in the sample. The UK and USA have higher rates of loss, as do the developing economies. Only Japan. Switzerland, Sweden and Canada have lower loss rates. Actually banks in Australia have reduced their provisioning and returned some of these earlier provisions to enhance profitably recently.

Finally, we look are operational costs. Here again Australian banks rank well, with some of the lowest costs as a proportion of assets of all countries. Many countries including the UK. Canada and USA have higher operating costs.

So, putting that all together, what can we conclude. Australian banks are some of the most profitable, thanks to efficient operations, low loss levels and relatively high margins. That strength should serve us well if the BIS scenario of rising interest rates comes true. However, we should not loose sight of the fact that the big four march together when in comes to pricing, products and fees. There is ample room for banks to become more competitive, and drive margins lower. Its unlikely though they will because they all enjoy the fruits of the current environment, at the expense of Australia Inc. The argument that shareholders benefit many be true, but it misses the point because that excess profitability dampens broader economic activity, thanks to higher ongoing costs.

APRA Reports ADI Housing Lending Is Up In May To $1.25 trillion

Alongside the RBA data, APRA released the latest monthly banking statistics for May, covering the Authorised Deposit Institutions (=Banks). Total housing loans was reported at $1.25 trillion, up from $1.245 trillion in April. The RBA number, which we reported already, was $1.36 trillion, the difference is the non-bank sector, at around $110 billion, around the same as last month.

Looking at the detail in the APRA data, we look first at housing lending. The big four maintain their market leading positions, with CBA the largest home loan lender.

Looking at the relative share of owner occupied to investment home loan lending, whilst some of the smaller players lend a greater proportion, Westpac is slightly behind Bank of Queensland, but the largest lender with the greatest proportion of investment loans. Nab has the lowest share of investment loans amongst the four majors.

Turning to Securitisation, Members Equity leads out, with Bendigo, Westpac and AMP following.

Looking at Credit Cards, CBA is in first place, with Citigroup in fifth.

In the business bank area, National Australia Bank is the largest business bank, with CBA following. The bulk of the lending is to the non financial corporation sectors.

Finally here is a snapshot of total lending, showing that CBA is the largest lender.

On the deposit side of the equation, CBA also leads the share of total deposits.

Looking specifically at household deposits, CBA leads the banks, with nab in fourth place, behind ANZ.

Housing Lending Up, Again, in May – RBA

The RBA released their financial aggregates for May 2014 today. Housing lending now totals $1.36 trillion, up by $7.2 billion, a growth rate of 0.5% in the month, and 6.2% in the past 12 months. Investment lending grew at 0.8% in May, whilst owner occupied loans grew at 0.4%.

Investment lending is growing faster, at 8.3% compared with 5.2% for owner occupation over 12 months. These are all seasonally adjusted numbers.

Personal credit fell again, by 0.3% in the month, giving an annual rate of 0.3%, and business lending grew 0.2%, giving and annual rate of 2.7%. So, the focus on lending for housing continues.

Australian Household Loan To Income Ratios Are Worse Than In The UK

As we highlighted recently, the Bank of England is supporting the imposition of loan to income (LTI) ratios on banks in the UK, as a way to manage risks in the housing sector. So today, we start to explore loan to income data in Australia, captured though our rolling programme of household surveys. We start with some average national data, then look at the NSW picture in more detail. The UK recommendation, was to ensure that mortgage lenders do not extend more than 15% of their total number of new residential mortgages at Loan to Income ratios at or greater than 4.5. This recommendation applies to all lenders which extend residential mortgage lending in excess of £100 million per annum.

So whats the Australian data? We start by looking at the average LTI by postcode. The histogram shows the average LTI by household, calculated at a postcode level, and including all households with a mortgage. Income means the gross annual income, before tax or other deductions. We see that the LTI varies between 2.25 and 8. This is the ratio of household income to the size of the mortgage. We see a peak around 4.25-4.5 times, and a second peak at 6.25. Newer loans are more represented in this second peak.

Loan to income is a good indicator, because it isolates movements in house prices altogether from the data. The rule of thumb when I was working in the bank as a lender was to take 3 times the first income, and add one times the second income as a measure of the loan which was available to a household. Although rough, it was not too bad. Since then, lending rules have changed and criteria stretched. This ability to lend more has in turn led to higher house price inflation, thanks to supply/demand dynamics.

The current data from the UK shows that LTI’s there are spread between 0 and 6. Interestingly, we see that in their forward scenarios they suggest an emerging second peak around an LTI of 5 times. So LTI’s in Australia are more stretched than in the UK. The regulators here do not report LTI data regularly. This is a significant gap. We can map relative LTI average to post code. Here is the Sydney example, which highlights that there is a significant geographic concentration of high LTI loans in the western suburbs of Sydney.

There is, further, a correlation between higher LTI loans and Mortgage Stress. Here is the stress data for Sydney.

These are concerning indicators. In addition as we dig into the data we find that the second peak in the LTI data relates to younger buyers, often first time purchasers. They are highly leveraged into the property market, and are surviving thanks to the very low interest rates available today. If rates rise, this could be a problem. This suggests that the loan to income situation in Australia is more adverse than the UK scene. Whilst we note the UK regulator is acting, there is no macro-prudential intervention in Australia. There should be.

Later we will present additional data across the other major centres, and examine in more detail those who are recent purchasers.