The BIS have released their latest comparative stats for household debt to GDP and household debt servicing ratios. And congratulations Australia, we headed the list with the highest debt servicing ratios in their series, and the second highest debt to GDP. Both alarming.
Looking at the household debt to GDP ratios first, to June 2019, the average across advanced economies is 72.8. This gives a proxy for how easily households will be able to service and repay their loans, the lower the less risk there is.
The United States is a little above the average at 75, the UK, at 84, Near Zealand stands at 94.6, similar to Canada, while Australia comes in at 119.3 and Switzerland leads the pack at 130.9.
On the debt servicing ratios, we have taken first spot, at 15.6, with Canada at 13.3, the UK 8.9 and the US 7.8. The DSR is the average of income required to service a loan. So, the lower the better. Note this is across ALL households whether they borrow or not, so it takes account of the amount being repaid and the proportion borrowing. Note also the the Australian data has risen from 2014, despite rate cuts.
Conclusion, Australians is over leveraged, and mainly into property.
ASIC’s decision to update RG 209 followed a
number of developments since the guidance was last updated in late
2014. These developments have included:
ASIC regulatory and enforcement actions, including court decisions
ASIC thematic reviews on various parts of the industry such as interest-only loans
the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry
recent and upcoming initiatives such as comprehensive credit reporting and open banking, and
changes in technology.
Following an extensive consultation, ASIC
has updated Regulatory Guide 209 (RG 209) to provide greater clarity and
support to lenders and brokers in meeting their obligations.
Importantly, ASIC has maintained principles-based guidance that supports
flexibility for licensees.
The changes include:
A stronger focus on the legislative purpose of the obligations—to reduce the incidence of consumers being encouraged to take on unsuitable levels of credit, and ensure licensees obtain sufficient reliable and up-to-date information about the consumer’s financial situation, requirements and objectives to enable them to assess whether a particular loan is unsuitable for the particular consumer.
More guidance to illustrate where a licensee might undertake more, or less, detailed inquiries and verification steps based on different consumer circumstances and the type of credit that is being sought. The updated guidance includes new examples about a range of different credit products including large and longer-term loans, credit cards and personal loans, small amount loans and consumer leases and different kind of consumer circumstances – such as first home buyers, existing customers, strata corporations, high net worth and financially experienced consumers.
More detailed guidance about how spending reductions may be considered as part of the licensee’s consideration of the consumer’s financial situation, requirements and objectives.
More detailed guidance about the use of benchmarks as a way to check the plausibility of expenses, as well as additional guidance about the HEM benchmark.
Clarity about more complex situations for some consumers – for example the different situations of consumers such as income from small business, casual employees, new employees, the gig economy, as well as joint and split liabilities and expenses.
ASIC has also included a section on the
scope of responsible lending, explaining the areas that are not subject
to responsible lending obligations – such as small business lending
irrespective of the nature of the security used for the loan.
The National Credit Laws provide consumers
with important protections when seeking credit directly from a lender
or through a broker. ASIC’s revised guidance is intended to assist
lenders and brokers to comply with their responsible lending obligations
and ensure that they do not recommend or provide credit that is
unsuitable.
ASIC Commissioner Sean Hughes said “ASIC
conducted extensive consultation on this important issue. The public
hearings and submissions highlighted the areas where industry sought
clarification from ASIC. We have listened carefully to all stakeholders
and addressed areas where we consider updated guidance would help. We
hope that today’s guidance will assist industry to more confidently make
responsible lending decisions and to facilitate good lending outcomes
for consumers.”
The guidance has also been updated to
reflect technological developments including open banking and digital
data capture services. RG 209 notes the cost and ease of access to
transaction information will be improved over time, which should improve
lenders’ overall view of a consumer’s financial situation.
ASIC has also published its response to
submissions made to Consultation Paper 309 and a tool to assist users of
RG 209 to navigate the updated structure of the document.
The
Financial Stability Board (FSB) today published two reports that
consider the financial stability implications from an increasing
offering of financial services by BigTech firms, and the adoption of
cloud computing and data services across a range of functions at
financial institutions.
The entry of BigTech firms into finance
has numerous benefits, including the potential for greater innovation,
diversification and efficiency in the provision of financial services.
They can also contribute to financial inclusion, particularly in
emerging markets and developing economies, and may facilitate access to
financial markets for small and medium-sized enterprises.
However, BigTech firms may also pose risks
to financial stability. Some risks are similar to those from financial
firms more broadly, stemming from leverage, maturity transformation and
liquidity mismatches, as well as operational risks.
The financial services offerings of
BigTech firms could grow quickly given their significant resources and
widespread access to customer data, which could be self-reinforcing via
network effects. An overarching consideration is that a small number of
BigTech firms may in the future come to dominate, rather than diversify,
the provision of certain financial services in some jurisdictions.
A range of issues arise for policymakers,
including with respect to additional financial regulation and/or
oversight. Regulators and supervisors also need to be mindful of the
resilience and the viability of the business models of incumbent firms
given interlinkages with, and competition from, BigTech firms.
Financial institutions have used a range
of third-party services for decades, and many jurisdictions have in
place supervisory policies around such services. Yet recently, the
adoption of cloud computing and data services across a range of
functions at financial institutions raises new financial stability
implications.
Cloud services may present a number of
benefits over existing technology. By creating geographically dispersed
infrastructure and investing heavily in security, cloud service
providers may offer significant improvements in resilience for
individual institutions and allow them to scale more quickly and to
operate more flexibly. Economies of scale may also result in lower costs
to clients.
However, there could be issues for
financial institutions that use third-party service providers due to
operational, governance and oversight considerations, particularly in a
cross-border context and linked to the potential concentration of those
providers. This may result in a reduction in the ability of financial
institutions and authorities to assess whether a service is being
delivered in line with legal and regulatory obligations.
The report concludes that there do not
appear to be immediate financial stability risks stemming from the use
of cloud services by financial institutions. However, there may be merit
in further discussion among authorities to assess: (i) the adequacy of
regulatory standards and supervisory practices for outsourcing
arrangements; (ii) the ability to coordinate and cooperate, and possibly
share information among them when considering cloud services used by
financial institutions; and (iii) the current standardisation efforts to
ensure interoperability and data portability in cloud environments.
According to Moody’s, on 5 December, the Reserve Bank of New Zealand (RBNZ) announced the finalisation of its capital requirements for New Zealand banks. The RBNZ’s decision to raise capital requirements – although slightly watered down from its earlier proposal – is broadly credit positive, because it will make the banking system more resilient to shocks. At the same time, the higher capital requirements will weigh on the banks’ return on equity. We expect the new measures will prompt higher lending rates in efforts to boost profitability and constrain growth in more capital-intensive lending.
For domestic systemically important banks (D-SIBs), which are New Zealand’s four largest banks, ANZ Bank New Zealand Limited, ASB Bank Limited, Bank of New Zealand, and Westpac New Zealand Limited, the Common Equity Tier 1 (CET1), Tier 1 and Total Capital requirements have risen to 13.5%, 16% and 18% of risk weighted assets (RWA), respectively. While the new rules are a slight relaxation from the RBNZ’s initial proposal of 14.5%, 16% and 18% announced in December 2018, they represent a significant increase from the current requirements of 7%, 8.5% and 10.5%. For all other banks, the CET1, Tier 1 and total capital ratio requirements will be 11.5%, 14% and 16%, respectively.
The RBNZ also announced that existing Additional Tier 1 and Tier 2 securities will no longer count towards regulatory capital. Replacing them will be redeemable, perpetual, preference shares and subordinated debt, provided these securities do not have any contractual contingent features such as conversion or write-off at the point of non-viability.
The higher requirements will be implemented by maintaining a regulatory minimum Tier 1 ratio of 7%, of which 4.5 percentage points must be CET1 capital, and introducing a number of prudential capital buffers, which total 9 percentage points (see Exhibit 1). Under the new framework, banks can temporarily operate below 13.5%, but above 4.5%, without triggering a breach of regulatory requirements. However, they will be subject to more intensive supervision and other consequences such as dividend restrictions. On average, the D-SIB CET1 ratios are around 2.5 percentage points lower than the new requirement of 13.5% (Exhibit 1).
The RBNZ is also limiting the difference between the calculation of RWAs by D-SIBs, which use the internal ratings based approach (IRB), and other banks that use the Standardised approach. This will be done by recalibrating the calculation IRB banks’ RWAs to around 90% of the outcome under the Standardised approach. The combination of higher capital ratio targets and higher RWAs imposed on D-SIBs could spur more competition by reducing some of the capital advantage previously enjoyed by banks using the IRB approach.
The new capital regime will take effect from 1 July 2020 and the banks will have up to seven years to meet the new rules, an increase from the five years initially proposed. The RBNZ’s decision to extend the transition period will ensure banks are well placed to meet the new targets, especially given the Australian Prudential Regulation Authority’s (APRA) recent changes to Australian Prudential Standards (APS) 222 to further restrict how much equity support Australia’s largest banks can provide to their New Zealand subsidiaries, and proposed changes to APS 111, which will increase the capital requirements of providing such support.
The Australian parents of the New Zealand D-SIBs Australia and New Zealand Banking Group Limited, Commonwealth Bank of Australia, National Australia Bank Limited, and Westpac Banking Corporation have all disclosed the estimated impact of the new rules (Exhibit 2).
The BIS has released their quarterly update. It comprises a review of market developments over the past quarter, and special features that analyse topical economic and financial issues.
Overall, they say that easing trade tensions in mid-October triggered a risk-on phase in global financial markets. Equity prices rallied, reaching new highs in the United States in November. At the same time, credit spreads tightened, and yields on safe sovereign bonds edged higher. Nevertheless, the economic outlook remained tepid and inflation low, leading central banks to ease further.
The renewed risk appetite, coupled with loose financial conditions, sparked questions about the sustainability of asset valuations. Investors’ compensation for bearing risk seems to hinge on the term premium; to the extent that the premium is unusually low, it may flatter valuations.
Claudio Borio, Head of the BIS Monetary
and Economic Department, commented: “Rather stretched asset valuations,
high risk-taking and hard-to-read changes in the financial system: the
mixture points to certain vulnerabilities in financial markets that
merit close attention on the part of market participants and central
banks alike.”
They offer specific analysis of the US Repo problem, and highlight a significant structural change as some US major banks become net providers of liquidity.
The mid-September tensions in the US dollar market for repurchase agreements (repos) were highly unusual. Repo rates typically fluctuate in an intraday range of 10 basis points, or at most 20 basis points. On 17 September, the secured overnight funding rate (SOFR) – the new, repo market-based, US dollar overnight reference rate – more than doubled, and the intraday range jumped to about 700 basis points. Intraday volatility in the federal funds rate was also unusually high. The reasons for this dislocation have been extensively debated; explanations include a due date for US corporate taxes and a large settlement of US Treasury securities. Yet none of these temporary factors can fully explain the exceptional jump in repo rates.
This box focuses on the distribution of liquid assets in the US banking system and how it became an underlying structural factor that could have amplified the repo rate reaction. US repo markets currently rely heavily on four banks as marginal lenders. As the composition of their liquid assets became more skewed towards US Treasuries, their ability to supply funding at short notice in repo markets was diminished. At the same time, increased demand for funding from leveraged financial institutions (eg hedge funds) via Treasury repos appears to have compounded the strains of the temporary factors. Finally, the stress may have been amplified in part by hysteresis effects brought about by a long period of abundant reserves, owing to the Federal Reserve’s large-scale asset purchases.
A repo transaction is a short-term
(usually overnight) collateralised loan, in which the borrower (of cash)
sells a security (typically government bonds as collateral) to the
lender, with a commitment to buy it back later at the same price plus
interest. Repo markets redistribute liquidity between financial
institutions: not only banks (as is the case with the federal funds
market), but also insurance companies, asset managers, money market
funds and other institutional investors. In so doing, they help other
financial markets to function smoothly. Thus, any sustained disruption
in this market, with daily turnover in the US market of about $1
trillion, could quickly ripple through the financial system. The
freezing-up of repo markets in late 2008 was one of the most damaging
aspects of the Great Financial Crisis (GFC).
The liquid asset holdings of US banks and
their composition have changed significantly since the GFC. Successive
rounds of large-scale asset purchases reduced the free float of
long-dated US Treasuries available to the market between the end of 2008
and October 2014. On the flip side, banks accumulated large amounts of
reserve balances remunerated at the Fed’s interest on excess reserves
(IOER) (Graph A.1,
left-hand panel, red line). After the Federal Reserve started to run
down its balance sheet in October 2017, reserves contracted, quickly but
in an orderly way as intended. Alongside, banks’ holdings of US
Treasuries increased, almost trebling between end-2013 and the second
quarter of 2019 (blue line).
As repo rates started to increase above
the IOER from mid-2018 owing to the large issuance of Treasuries, a
remarkable shift took place: the US banking system as a whole, hitherto a
net provider of collateral, became a net provider of funds to repo
markets. The four largest US banks specifically turned into key players:
their net lending position (reverse repo assets minus repo liabilities)
increased quickly, reaching about $300 billion at end-June 2019 (Graph A.1,
centre panel, red bars). At the same time, the next largest 25 banks
reduced their demand for repo funding, turning the net repo position of
the banking sector positive (centre panel, dashed line). The big four
banks appear to have turned into the marginal lender, possibly as other
banks do not have the scale and non-bank cash suppliers such as money
market funds (MMFs) hit exposure limits (see below).
Concurrent with the growing role of the
largest four banks in the repo market, their liquid asset holdings have
become increasingly skewed towards US Treasuries, much more so than for
the other, smaller banks (Graph A.1,
right-hand panel). As of the second quarter of 2019, the big four banks
alone accounted for more than 50% of the total Treasury securities held
by banks in the United States – the largest 30 banks held about 90% (Graph A.2,
left-hand panel). At the same time, the four largest banks held only
about 25% of reserves (ie funding that they could supply at short notice
in repo markets).
Cash balances held by the US Treasury in
its Federal Reserve account (the Treasury General Account, TGA) grew in
size and became more volatile, especially after 2015. The resulting
drain and swings in reserves are likely to have reduced the cash buffers
of the big four banks and their willingness to lend into the repo
market. After the debt ceiling was suspended in early August 2019, the
US Treasury quickly set out to rebuild its dwindling cash balances,
draining more than $120 billion of reserves in the 30 days between 14
August and 17 September alone, and half of this amount in the last week
of that period. By comparison, while the Federal Reserve runoff removed
about five times this amount, it did so over almost two years (Graph A.2, centre panel).
Besides these shifts in market structure
and balance sheet composition, other factors may help to explain why
banks did not lend into the repo market, despite attractive profit
opportunities.
A reduction in money market activity is a natural by-product of central
bank balance sheet expansion. If it persists for a prolonged period, it
may result in hysteresis effects that hamper market functioning. For
instance, the internal processes and knowledge that banks need to ensure
prompt and smooth market operations may start to decay. This could take
the form of staff inexperience and fewer market-makers, slowing
internal processes.
Moreover, for regulatory requirements – the liquidity coverage ratio –
reserves and Treasuries are high-quality liquid assets (HQLA) of
equivalent standing. But in practice, especially when managing internal
intraday liquidity needs, banks prefer to keep reserves for their
superior availability.
Shifts in repo borrowing and lending by
non-bank participants may have also played a role in the repo rate
spike. Market commentary suggests that, in preceding quarters, leveraged
players (eg hedge funds) were increasing their demand for Treasury
repos to fund arbitrage trades between cash bonds and derivatives. Since
2017, MMFs have been lending to a broader range of repo counterparties,
including hedge funds, potentially obtaining higher returns.
These transactions are cleared by the Fixed Income Clearing Corporation
(FICC), with a dealer sponsor (usually a bank or broker-dealer) taking
on the credit risk. The resulting remarkable rise in FICC-cleared repos
indirectly connected these players. During September, however,
quantities dropped and rates rose, suggesting a reluctance, also on the
part of MMFs, to lend into these markets (Graph A.2,
right-hand panel). Market intelligence suggests MMFs were concerned by
potential large redemptions given strong prior inflows. Counterparty
exposure limits may have contributed to the drop in quantities, as these
repos now account for almost 20% of the total provided by MMFs.
Since 17 September, the Federal Reserve has taken various measures to supply more reserves and alleviate repo market pressures. These operations were expanded in scope to term repos (of two to six weeks) and increased in size and time horizon (at least through January 2020). The Federal Reserve further announced on 11 October the purchase of Treasury bills at an initial pace of $60 billion per month to offset the increase in non-reserve liabilities (eg the TGA). These ongoing operations have calmed markets.
But, I would observe, that structural change remains…
The additional capital requirements imposed on the big four by the Reserve Bank of New Zealand has seen analysts downgrade their forecasted return on equity across the major institutions. Via InvestorDaily.
The Reserve Bank of New Zealand (RBNZ)
has demanded the local arms of the big four raise their total capital
ratio from a minimum of around 10.5 per cent to 18 per cent over the
next seven years. The central bank had previously estimated that this
would see a collective raise of around $19.1 billion.
Currently, banks in New Zealand hold an average of around 14.3 per cent.
According
to an analysis from Morningstar, the big four’s raise will be a
combined $12.4 billion (NZ$13 billion) to meet the new tier 1 capital
requirements amounting to 16 per cent of risk weighted assets, versus
the current 8.5 per cent.
S&P Global has placed the figure at around $15.7 billion (NZ$16.4 billion).
The
changes, which come into effect from next year, have been made to
protect consumers against loan losses and to prevent the banks from
reaching a point of failure.
But the
time frame is key, as the central bank extended it from its original
proposed five years for the raise to soften any economic shocks.
Morningstar said the longer period will see banks organically retaining
additional capital from earnings, instead of triggering equity raisings
or dividend cuts.
Analysts at the
investment bank expect the Australian majors to respond to the new
measures by repricing loans and deposits and by reducing exposure to
higher-risk sectors and borrowers.
Further,
S&P Global noted the implementation of the measures should not
materially reduce the availability of credit in New Zealand, but the
banks could cut lending to customer segments that would require
increased regulatory capital.
“RBNZ’s
initiatives strengthen bank-capital levels, which provides a greater
buffer to manage a potential increase in loan losses,” the Morningstar
analysis read.
It has made no changes
to its earnings forecasts or valuations of the banks, however, despite
expecting the summation of flat or slightly higher loan books and higher
net interest margins will lead to moderately lower cash NPATs across
the New Zealand divisions.
“The effect on group earnings is immaterial though,” Morningstar said.
“The drag on the banks’ returns on equity is larger.”
The
assessment has predicted a reduction in return on equity for CBA by 46
basis points to 14.8 per cent, Westpac by 22 basis points to 11.4 per
cent, ANZ by 16 basis points to 11.5 per cent and NAB by 36 basis points
to 11.3 per cent.
S&P Global has said likewise, expecting ROE to “considerably decline”.
The
Morningstar analysts also believe the major banks can maintain current
dividend levels, but retaining a greater portion of New Zealand profits
leaves less headroom to offset unexpected hits on earnings or capital.
Westpac
and NAB have slashed their dividend payouts, and ANZ cut its dividend
franking level recently, reflecting impacts on profit from unexpected
remediation.
ANZ in particular is
raising capital at the group level to meet the RBNZ rules, holding a
larger investment in its New Zealand division than the other banks.
None of the other banks have indicated any intention to raise capital, but the possibility remains in the future.
“Seven
years is a long time, and this view will need to be reviewed as the
banks’ strategic response takes shape,” the Morningstar analysts stated.
“The
New Zealand operations of the banks will remain highly profitable
despite the additional capital, hence we do not expect a divestment to
be on the cards.”
Canberra listed 69 auctions, reported 58 with 40 sold and 1 withdrawn and 18 passed in to give a Domain clearance of 68%.
Brisbane listed 88 auctions, reported 25 and sold 16 with 3 withdrawn and 9 passed in to give a Domain clearance of 57%.
Adelaide listed 79 and reported 49 with 38 sold, 5 withdrawn and 11 passed in to give a Domain clearance of 70%.
Now, my own calculations put the effective clearance rates much lower.
For example Brisbane listed 88 and sold 16, giving a DFA estimate of 18.2%, not 57%. This on the assumption that sold property will be reported with more vigor by agents compared with passed in properties.
