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[LARGE CAPS] Another bank reporting season

Steve Coffey is an investment analyst with UBS. 

Given their odd year ends, it's approaching half yearly reporting season for three of the four major banks, plus the full year for Macquarie. We are expecting to continue to see relatively slow credit growth as well as increased discounting on mortgages and higher funding costs offsetting much of the price increases put through last year.

Mortgage growth is being constrained by APRA's increased focus on investor lending growth, higher capital requirements and tighter lending standards. I recall being told about 15 years ago that Australian credit growth had never dropped below 10% and never would, a level that since the financial crisis looks more like a ceiling than a floor.

It will be difficult to justify mortgage growth rising strongly above incomes from here, given the already very high level of household leverage. Dividends may come under pressure given the banks are issuing more shares to fund higher capital levels and ANZ and NAB are divesting assets (and earnings). The banks are more likely however to decide to maintain the current level of dividends to pay out franking credits and issue more shares through their DRP's rather than cut. Credit losses continue to be well below what we would consider a normal level, and we anticipate that we have now passed the trough in loan losses in this cycle. If credit losses increase significantly from here, DRP's may not be the answer.

We started to move underweight the banks in 2014, as we anticipated capital raisings and that low credit losses would prove unsustainable. We participated in the discounted capital raisings in 2015 and reduced some of our underweight at the time following a period of significant underperformance. We also took the opportunity to switch from ANZ into Westpac as we anticipated greater pricing power in mortgages to disproportionately benefit the more retail focused banks. 

In these results we will be closely watching the impact of discounting and repricing on net interest margins, as well as cost growth, dividend policy and strategy changes, given the recent turnover in bank senior management. Given our view on the credit cycle, we will also be looking at loan performance, credit losses and provisioning levels, to see if the recent increases in bad and non-performing loans proves to be more widespread than the banks currently believe.

Published on: Friday, April 22, 2016

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