Invast Insights 2013 - A Closer Look At The Australian Banks


of 55

Embed Size (px)


In this Invast Insights report, we aired our side on the criticism that we got on our weekly market preview last October 28, 2013. There were updates on ANZ's expansion into Asia and other banks reporting their numbers. We also enumerated points to remember when investing in a bank. Lastly, we featured the article written by Invast's Director of Communication Ashley Jessen regarding the growth of social media in financial markets and how this move affected traders.

Transcript of Invast Insights 2013 - A Closer Look At The Australian Banks

  • 1.Invast Insights Week Commencing November 4, 2013

2. | 1800 468 278 This week we look at the following topics: 1.0 A look at the Australian banks 1.1 ANZ and NAB worlds apart 1.2 How we think about banks 2.0 Technical analysis to filter market noise 3.0 Understanding Beta in Forex markets 4.0 Social media & trading 5.0 Melbourne Cup tip 6.0 Weekly economic calendar 3. | 1800 468 278 4. | 1800 468 278 1.0 A look at the Australian banks On Monday 28 October 2013 we published our weekly market preview on the market and spoke specifically on the upcoming Australian banking results. We have been criticised for being too bearish on the banks previously but our view is on core earnings principals and fundamentals of banking. Its not just the earnings number that matters, its the quality behind it. Banks like insurance companies and casinos are in the business of pricing risk. Recent history, particularly in the Northern Hemisphere, has shown that a whole decades worth of earnings can easily be wiped out in one bad year. We dont normally dwell too much on a particular sector but we made the point that the Australian banks are key constituents to the ASX200 index and therefore their performance will weigh heavily on the direction of the market and central banking outcomes. The Australian banks have also been a target of negative offshore publicity so we plan to explore their quality right here. 5. | 1800 468 278 6. | 1800 468 278 We estimate around 22% of the ASX200 index is derived from the big four Australian banks whereas the number is less than half that for the DAX30. In our view we said that we dont doubt the ability of the Australian banks to book healthy profits but instead were cautioning against some rosy assumptions already priced into the market. Click on the right to review the video if you havent already watched it. When the final numbers did come out last week, both ANZ and NAB struggled to book further gains in their respective share prices. In fact NAB actually fell by more than 2% on the day which it announced its earnings, in line with our comments three days prior. We didnt have a crystal ball and its not that the banks report card was bad, its just that expectations had got a little ahead of themselves. 7. | 1800 468 278 1.1 ANZ and NAB are worlds apart With the banks reporting their numbers, we thought it would be a good opportunity to update our views on this space. Invast has a strong preference for ANZ ahead of any other listed Australian banking exposure. We believe in the Asian growth strategy and think the bank is miles ahead of its regional peers in getting this expansion right. Perhaps its the fact that we are a Japanese broking firm now operating in Australia and so we live the Asian financial expansion story on a daily basis. We like ANZ so much that we plan to add it to our Wealth Preservation portfolio if the share price pulls back, which we think it will. ANZs expansion into Asia is not just about buying assets or opening branches, its about understanding the culture and market dynamics. The banks CEO Mike Smith knows the region better than any other western banker, having built up a regional footprint in his prior roles. Its fair to say that ANZ is probably behind the curve on its IT investment spending but this has been due to a deliberate plan to get Asia right. We dont any point in 8. | 1800 468 278 having the best IT capabilities if your eggs are all in one basket like Westpac with its pure domestic exposure. More on that later. ANZs Asian exposure fits into two of its reporting divisions Institutional Banking and Global Wealth which both booked a 15% and 36% rise in cash profits respectively. The Australian business grew cash profits by 11% in comparison not bad at all considering Australia is a very well developed and mature banking market but the decision to expand offshore will feature more prominently in coming years. It does carry risk both currency and lending. Hedging is in place to meet 2014 currency earnings around 50% of USD and 65% of NZD earnings. Asia now represents around 29% of the banks institutional credit exposure compared to only 19% three years ago, so a blow up in the region will definitely make life more difficult. But the thing we like about ANZ is the effort to make Asia happen no bank can grow into an emerging region 9. | 1800 468 278 without lending or currency risk. It takes courage at a time when other Australian peers are sailing comfortably off the back of a mining boom and low domestic interest rates. ANZ has a niche market in targeting Asia trade financial and certain wealth management products which not only yield strong results but help contain lending risk. For example, Asian loans focused on shorter durance loans to multinational, high quality and often large customers. Around 67% of all Asian loans are of investment grade compared to 57% in Australia. Its a well thought out, patient growth strategy. Many banks will blow up over their life cycle thats life in banking. Nobody knows this better than NAB which continues to struggle from its UK operations, but things are improving. The market had previously written down NABs ongoing UK problems but that stock had rallied going into last weeks result by more than 40% on the expectation that the worse was behind. While ANZ was building its Asian blueprint, NAB was cleaning up its UK mess. NABs earnings firmed by 9% for the year ending 30 September 2013 but revenue was only 2% higher most of the increase in profits came from lower bad debt charges from the UK and other areas. 10. | 1800 468 278 NABs UK business booked earnings of $150m compared to a $213m loss last year. The turnaround has eventuated but is the worst over? We arent popping the champagne bottles and remain cautious. NAB still has around GBP157 million of assets that are in arrears by 90 days or more and gross impaired assets of GBP423m these are problem loans. To put things into context, NABs 2013 turnaround saw its UK business book cash earnings of GBP96m so the problems are still there on the balance sheet even though they werent as bad as last year. Net interest income in NABs UK business the difference between the money it makes on loans and deposits before operating costs of bad loans fell by 13%. Its one thing to see higher earnings due to less loan losses, its another thing to be growing your earnings by writing more business which is what ANZ is doing. 11. | 1800 468 278 1.2 How we think about banks When investing in a bank, there are two very important things to look for: Net interest margins and the trend going forward This is the banks ability to price. Just like any other industrial business if your pricing power is rising or falling, your earnings will be impacted. Bad debts and arrears Bad debts are expensed, but arrears are loans which havent been paid but not yet expensed through the profit and loss statement. They indicate what future expenses are likely to look like and hence we pay close attention. Returns on equity are also important the amount of money the bank is generating for its shareholders on an annualised percentage basis but the two above points will drive where this goes and so we exclude a discussion on this for the time being. 12. | 1800 468 278 Net interest margins Australia is still the key market for both ANZ and NAB. What happens offshore is only still marginal, what happens at some will dictate where earnings go. At Invast we think one of the most important short term issue is an all out price war on domestic residential mortgages. Perhaps its an overblown fear but when it comes to investing in banks it pays to be cautious. Just speak to investors in the USA and more recently in Europe who have seen banking shares collapse. NABs net interest margins in their domestic personal banking business are still respectable at 2.08% for the year ending September but if we review them over the half year period they did fall by 2 basis points to 2.07%. Still, nothing alarming but this is something that needs to be monitored. If domestic banking margins fall, the flow on impacts to the banks bottom line will be very significant. 13. | 1800 468 278 Singapore listed DBS which is a powerhouse in Asian bank and competes with ANZ, booked net interest margins of 1.62% in their last quarterly result. The point here is that a 2% plus net interest margin is considered high by global standards and so there is scope for margins to fall further in Australia. ANZ is somewhat in a more comfortable position with its Australian net interest margins at 2.52%, down only 1 basis point on the half but it has the most to lose also with CBA and Westpac knocking on its door. To illustrate the DBS point made above, ANZs net interest margins in its global markets business fell by 16 basis points to 2.61% and so domestic pricing pressure is the latest thing it needs. At a group level, ANZs cash net interest margins fell by 6 basis points to 2.19% when compared to the prior half year period. Our bottom line is that net interest margins are under pressure and with most Australian banks well into the 2% range there is scope for downside when compared to global peers. 14. | 1800 468 278 Bad debts and arrears We last discussed the quality of Australian banking assets in Invast Insights issue published on 23 September 2013 where we pointed to CBAs arrears trend falling in housing loans but rising in credit cards and personal loans. We made the point that the asset class that matters most residential homeloans is not seeing a systemic increase in arrears which is a positive signal for future bad debts. Banking shares collapse when bad debts start accu