Digital Finance Analytics (DFA) Blog – Page 1047

Big Four Serve Up $28.6bn Profit

The results are now in for the last year from the major banks, and combined they delivered more than $28bn in cash profit, higher than the $27bn last year.

There are several key drivers of profitability, the first is housing lending. Rises in property prices inflates new loans, and the banks’ balance sheets. If the property market takes a turn down, this will have an impact. Net interest margin is down a little (thanks to discounting) but is now being offset by lower deposit rates.

The second is efficiency and some players are doing a lot better than others in excellence of execution, thanks to technology investments, and cultural transformation. This will continue as new technology and channels become ever more mainstream. This may open the door on new competitors, as discussed in our Quiet Revolution report.

The profit contribution from wealth management will continue to grow, as superannuation balances increase thanks to the enforced savings scheme. This may be offset by a reduction in fees. Is FOFA another sleeper? Well, unless the Senate does something surprising, the FOFA regulation will work in the banks favour, so no.

The enigma factor with regards to continuing performance is whether via the FSI or directly, the regulators lift the capital requirements for the majors. There is a strong argument to do this, because as the concentration risks in the mortgage book become an ever larger share of the total book, the Basel III rules mean the banks can get away with ever lower capital reserves. Those within the banks will claim they already have more than enough capital, and would be put at a disadvantage compared to other international players. However, on an international comparison basis, Australian banks are relatively less well capitalised. The current rules also make lending to business less attractive in comparison to home loans. Capital rules may be selectively targetted at property investors and especially those signing up to interest only loans.

If capital requirements are lifted, the banks will have to raise their pricing to match, but on the other hand they can also trim their deposit margins, and tweak their discounting strategies. So, we believe that even if capital requirements were adjusted up, there is really little likely impact on bank profit. Margins and fees in Australia are still relatively high and competition works for the majors.

So, overall, we think that profit landscape is going to remain relatively benign, external economic shocks excepting. Those with a strong local franchise will be best positioned.

The State Of House Price Movements

The RPData CoreLogic Home Value Index for October shows an average increase in prices of 1% across the capital cities. However, there are major variations. Although combined capital city home values were up by 1.0 per cent over the month, only Sydney (1.3%), Melbourne (1.9%) and Brisbane (0.6%) actually recorded value rises over the month.

Dwelling values rose by 2.2 per cent over the three months to October 2014 however, only half of the capital cities actually recorded an increase in values. The greatest value falls over the last three months were recorded in Hobart (-2.8%) and Canberra (-2.4%).

Westpac Profit Up 12%

Westpac released their full year results today. Headline was a 12% uplift in statutory net profit, to $7,561 million for the 12 months to 30 September 2014, compared with 2013 results of $6,751 million. Continued focus on the Australian market is clearly paying off. “While all divisions performed well, Australian Financial Services (AFS) has had a particularly strong year. All businesses in AFS delivered double digit earnings growth, with well managed margins and a 6% increase in banking customer numbers. We provided more than $87 billion in new lending to Australian retail and business customers over the year, while growing in line or above system across all key markets in the second half.”

Looking at cash profit, WBC recorded $7.63 billion, an 8 per cent increase on the previous year and slightly ahead of analyst estimates at $7.62bn.

The Group grew at or above system in all key markets in the second half of 2014, including growing at system in Australian mortgages, 1.3x system in household deposits and 1.4x system in business lending.

Net interest income was $13,496 million, up 5%, with an 8% rise in average interest-earning assets and a 7bps decrease in net interest margin to 2.08%. The full year decline in net interest margin principally reflects a lower Treasury contribution, higher levels of liquid assets and lower interest rates impacting returns on capital.

Non-interest income was $6,324 million, a 7% increase, driven largely by another strong performance from the Australian wealth and insurance business, BT Financial Group.

WBC reported an expense to income ratio of 41.6%, which is sector leading; and a further decline in impairment charges which were 23% or $197 million lower.

WBC will pay a fully franked final dividend of 92c to shareholders on the register at November 12. Westpac’s total distribution for the year is$1.82, a 5 per cent lift on the previous year.

We note their continued focus on customer centricity, and the emerging digital strategy, both of which position well for future performance.

Total Housing Lending Now Worth $1.4 Trillion

The RBA financial aggregates, released today, highlight the continued growth in housing lending. The overall summary is shown below:

Looking in detail at the housing numbers, owner occupied lending reached $923.1 billion (up 0.46% from the previous month, or $4.2 billion), whereas investment lending reached $475.1 billion (up 0.85% or $4.0 billion). Investment loans now comprise 33.98% of total housing lending, another record. This underscores RBA’s concerns as we highlighted before.

Total housing lending is now $1.398 trillion, of which, according to APRA $1.288 trillion is from the ADI’s, the balance of $110 billion is from the non-bank sector, and recorded no change (though there are some data issues here).

Monthly Banking Statistics For September Shows Investment Loans Still Running

APRA just released their data for September 2014. This provides a breakdown of balances outstanding by financial institution across the main lines of business. This only includes players within their bailiwick.

Looking at home loans first, total balances rose from $1.28 to $1.288 trillion, with investment loans rising by 0.85% to $446.3 billion, and owner occupied loans by 0.44% to $841.1 billion. So investment lending forged ahead, again.

Looking at the relative shares, we see CBA with 27.2% of the owner occupied market, and Westpac with 31.9% of the investment home loan market. Together the two Sydney-based players dominate.

We see that Bank of Queensland and Westpac have relatively the largest share of investment loans in their loan portfolios.

Looking at the month on month movements, we see the most significant movements in investment loans at Westpac and CBA. We also see Macquarie active on the investment loan front, wth a growth of 3.8% month on month, they grew their investment book the fastest. Macquarie also grew their owner occupied loan portfolio the fastest, at 2.7%.

Turning to deposits, total balances were up 1.03% month on month, to a total of $1.77 trillion. Looking at the individual players, CBA and WBC have dominant positions.

In relative terms, HSBC (3.2%) and CBA (2.3%) grew balances the fastest, Bank of Queensland and Rabobank both lost balances.

Switching to Credit Cards, balances fell slightly in the month, at $40.2 billion. There is little change in the individual portfolios amongst the big four and Citigroup.

ANZ Lifts Profit 10%

In a contrast to Nab yesterday, ANZ’s full year results today are striking. In the year to September 30, ANZ delivered a cash profit of $7.12 billion which is a 10 per cent increase on last year’s result. This is in line with forecasts. Full-year net profit increased 15 per cent to $7.27bn, while operating income rose 8 per cent to $20.054bn. The net interest margin fell slightly, to 2.13 per cent, from 2.22 per cent, reflecting strong competition for loans.

Cash profit from Asia increased 25 per cent and revenue by 10 per cent in the full-year. The bank’s international business in Asia Pacific, Europe and America now accounts for 24 per cent of group revenues. Cash profits in those areas increased 20 per cent to $1.2bn. In contrast, the Australian region’s cash profit was up one per cent at $4.4bn.

Nab’s Long Winding Road Home

Nab released full year results to September 2014 today. From the ASX announcement we see:

Cash earnings declined to $5.18 billion, which is 9.8% below the September 2013 full year due to earnings adjustments announced on 9 October 2014 relating to UK conduct provisions, capitalised software impairment, deferred tax asset provisions and R&D tax policy change totalling $1.5 billion after tax for the 30 September 2014 full year.

Excluding the impact of changes in foreign exchange rates, actual revenue declined 1.1%. After exchange rate adjustments, revenue increased by approximately 1.9% with higher lending balances, partly offset by a lower net interest margin (NIM) and weaker Markets and Treasury income.

Expenses rose 0.7 % excluding the impact of changes in foreign exchange rates and one-off adjustments. Adding in the impact of higher UK conduct provisions, capitalised software impairment and R&D tax policy change expenses rose 21%. Excluding these items and prior period UK conduct charges relating to PPI and IRHP, expenses rose 4.5% over the year.

Improved asset quality and deliberate portfolio choices made over recent years have resulted in a total charge to provide for bad and doubtful debts (B&DDs) for the year of $877 million, down 54.7% on 30 September 2013 due primarily to lower charges in Australian Banking and NAB UK CRE (Corporate Real Estate). The charge includes a $50 million release from the Group economic cycle adjustment and $99 million release from the NAB UK CRE overlay

The Group maintains a well diversified funding profile and has raised approximately $28.2 billion of term wholesale funding (including $7 billion secured funding) in the 2014 financial year. The weighted average term to maturity of the funds raised by the Group over the 2014 financial year was 5.1 years. The stable funding index was 90.4% at 30 September 2014, a 1.2 percentage point increase on 30 September 2013.

The Group’s Basel III Common Equity Tier 1 (CET1) ratio was 8.63 % as at 30 September 2014, an increase of 20 basis points from 30 September 2013 and broadly stable compared to 31 March 2014. As announced in the March 2014 half year results, the Group will target a CET1 ratio of 8.75% – 9.25% from 1 January 2016, based on current regulatory requirements.

The final dividend has been maintained at 99 cents, fully franked, and a dividend reinvestment plan (DRP) discount of 1.5% will be offered with no participation limit. NAB has entered into an agreement to have the DRP on the final dividend partially underwritten to an amount of $800 million over and above the expected participation in the DRP. Assuming a DRP participation rate of 35%, these initiatives will provide an expected increase in share capital of approximately $1.6 billion, which is equivalent to a 44 basis point increase in NAB’s CET1 ratio.

DFA believes the challenge for the bank is to get their Australian franchise to fire consistently, leveraging their footprint in home lending, business banking and wealth management. This will be a long and hard journey because it will be a question of excellence in execution, effective customer segmentation, and the removal of toxic customer servicing experiences, enabled by continued technology investment. We would also expect to see a continued withdrawal from the overseas ventures, which consistently underperformed. Overall, we believe NAB will become ever more reliant on the local Australian and New Zealand businesses, and that the long winding road of offshore investments will lead to further divestments. The truth is that the big four have a natural advantage in their home markets (high margins, benign competition and gentle regulation) and Australian banks find it very hard to perform consistently in the high-competition markets of the UK and USA. But Nab will have to work hard to break the cultural, process and systems barriers which beset the bank.

Finally, a release in provisions made a significant positive contribution this time around, but will not always be available.

Chart source ASX.

ASIC’s Annual Report Tabled

ASIC’s annual report for the 2013–14 financial year was tabled on Wednesday 29 October 2014 in the Australian Parliament. Its 185 pages highlights the broad range of issues ASIC covers, and connects back to their earlier strategy release. DFA found some interesting nuggets of information in the 6 year trends table.

There has been a steady rise in the number of companies in Australia, with over 2.1 million operating. Last year more than 212,000 new companies were registered, whilst about 85,000 closed.

There was a steady rise in the number of Australian Financial Services Licenses issued, including a number of limited licenses to Accountants enabling them to offer financial advice. On the other hand, the number of registered Managed Investment Schemes (MIS) fell, explained partly by the collapse of agribusiness schemes such as Timbercorp and Great Southern.

Finally, we note that the number of registered Auditors fell a little, now below 5,000 (despite the rise in companies), as there has been considerable consolidation in the audit sector; whilst the number of entities registered as Liquidators rose slightly.

Managing Global Finance As A System

Andrew Haldane, Chief Economist of the Bank of England, gave the annual Maxwell Fry lecture on Global Finance at Birmingham University. There are some powerful observations here, relevant to the Australian context, as well as the potential to amplify risks associated with a more interconnected world. He also takes macroprudential discussions further.

Andrew’s main theme was the growing size and complexity of global capital flows between countries. He noted that ‘cross-border stocks of capital are almost certainly larger than at any time in human history’. And the apparent independence of domestic investment from domestic saving suggests that ‘measured levels of global capital market integration … remain at higher levels than at any point in history’. He discussed how this can be ‘double-edged’ from a financial stability perspective: it both shares risk (which can be stabilising) but also spreads and amplifies risk (which can be destabilising) – potentially generating ‘more frequent and/or larger dislocations’.

He argued that many lessons have been learned from the financial crisis, not least the need to ‘safeguard against systemic risk’. Yet when it comes to the fortunes of the international monetary system ‘it is far from clear that these lessons have been learned, much less that the international rules of the road have been reformed’. ‘Arguably, the rules of the road for this system have failed to keep pace with the growing scale and complexity of global financial flows’.

One of the consequences of the growth in cross border capital flows is ‘the steady rise in the degree of co-movement in asset prices over time’. Cross-border spillovers are becoming more important and global common factors more potent. A particular example is the behaviour of yield curves across countries. ‘To a first approximation, global yield curves appear these days to be dancing to a common tune’.

Andrew identified four areas where the global financial system could be strengthened:

a) Improve global financial surveillance, by tilting IMF surveillance away from monitoring individual country risk and towards multilateral surveillance and having more real-time tracking of the global flow of funds.

b) Improve country debt structures, for example by encouraging countries to issue GDP linked bonds, or Contingent Convertible (CoCo) bonds.

c) Enhance macro-prudential and capital flow management policies. For example, he suggests that ‘total credit follows a global cycle that has strengthened over time’ in which case ‘there may in future be a case for national macro-prudential policies leaning explicitly against these global factors’ taking international macro-prudential policy co-ordination ‘to the next level’. This next phase of macro-prudential policy may see measures ‘targeted at particular markets, as well as particular countries’.

d) Improve international liquidity assistance, for example by increasing the resources available to the IMF.