Banks

Are the Big Four Banks' best days over?

Thu 08 Jun 23, 3:30pm (AEST)
Pig with c ash coming out of it dividends
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Key Points

  • Morgan Stanley analysts argue that margins will actually fall by 15 basis points over the next 18 months
  • Total system credit growth is now slowing, with housing loan and retail deposit growth both increasing but by less than half a percent in each case
  • The Signal or Noise panel's take is that the best days for bank earnings are coming to an end

On the most recent edition of Signal or Noise, the panel had a lengthy discussion about whether the best days for bank earnings are over. After all, this should have been their zenith period. Rising rates should have been great news for everything from increased mortgage rates to higher interest incomes. 

But the gains were short-lived and mixed. Analysis from KPMG revealed that while cash profits and operating incomes both went up by double digits, ROE and dividend payout ratios were mostly flat. And although it's not shown in the below table, gains in net interest incomes have been eroded by a 400%+ gain in interest expenses.

Big Bank results
Source: KPMG

In short, the results look good but should have been better knowing the other headwinds that are on the horizon. 

So are the best days for the Big Four over before they really started? In this wire, I'll share two competing views on that very subject.

What does the data say?

The most recent data from APRA suggests that total system credit growth is now slowing. Last month's figures showed the sixth consecutive monthly slowdown in year-over-year total system credit growth. Housing loan and retail deposit growth both increased but by less than half a percent in each case. 

The data showed that Commonwealth Bank (ASX: CBA) and ANZ (ASX: ANZcontinues to dominate while in the regional space, it's a tale of two banks with Bendigo and Adelaide Bank (ASX: BENbeginning to regrow its mortgage book while the deposit base at the Bank of Queensland (ASX: BOQ) continues to weaken. BOQ was also slapped with two capital charges earlier this week, costing its balance sheet another $110 million.

The bull case: Macquarie

Nonetheless, Macquarie has turned slightly more bullish on the Big Four banks. It recently upgraded its view of the sector to NEUTRAL. 

"Overall, the rate of margin decline has moderated and consensus expectations have been rebased leaving less near-term risk to earnings," analysts wrote recently.

"While the near-term outlook for bank earnings appears challenging, recent pricing trends suggest that the rate of margin decline has started to moderate. Furthermore, following a 5-10% consensus downgrade and rebased margin expectations, the risk to earnings has reduced."

The bear case: Morgan Stanley

The benefit of large rate hikes and highly favourable deposit pricing comfortably offset mortgage headwinds and drove average margin expansion of +19bp for the major banks in late 2022. But all that is about to change, with Morgan Stanley analysts arguing margins will actually fall by 15 basis points over the next 18 months.

"The tailwind from higher rates is starting to fade, so we believe competition will be the biggest influence on margins, with deposits likely to be a bigger swing factor than mortgages," they wrote.

"We believe further downgrades to consensus earnings estimates will weigh on share price performance in 2023."

The analysts actually downgraded Westpac (ASX: WBC) to EQUAL WEIGHT from overweight and NAB (ASX: NAB) to UNDERWEIGHT from equal weight. They also trimmed the price targets and EPS forecasts of CBA and ANZ. Having said this, ANZ remains their pick of the bunch.

The Signal or Noise panel's take

All three panellists agreed that the best days for bank earnings are coming to an end. Aaron Binsted of Lazard Asset Management argued that we're actually at the pointy end of a multi-year downtrend.

"If you look at a long term basis, banks have been in a structural decline in profitability since about 2015," Binsted said. "There are better opportunities elsewhere," he added.

Pete Robinson of Challenger Investment Management views the bank's earnings through a credit lens, and he argues there are more headwinds for the banks than even the consensus is pricing in.

"There is a lot of rate leverage within the rates model. But I do think the fundamental risks on their balance sheet makes it a bigger signal than noise," he said.

This article is first published for Livewire Markets on Thursday, 8 June 2023.

Written By

Hans Lee

Senior Editor

Hans is one of the Senior Editors at Livewire Markets and Market Index. He created Signal or Noise and leads the team's coverage of the global economy and fixed income markets.

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