Big 4 banks to withdraw from NZ?

The Reserve Bank of New Zealand (RBNZ) released its consultation paper on bank capital in January with the deadline for submissions now set at 3 May 2019. To recap, RBNZ has proposed a material increase in New Zealand banks’ proportion of capital funding over a five-year transition period and appears unlikely to back down from its stance.

The key elements include:

(1) raising risk-weighted assets (RWA) to at least 85% of what would be calculated under the Standardised approach to ensure a level playing field (i.e. overall RWA would increase by ~16% according to RBNZ estimates);

(2) setting a Tier 1 capital requirement of 16% of RWA for the four majors (comprising 6% minimum requirement and 9-10% prudential capital buffer) and a requirement of 15% for all other banks; and

(3) retaining the current treatment of Tier 2 capital and querying if Tier 2 should remain in the capital framework.

The RBNZ’s proposal would raise the minimum total capital requirement for the four majors from 10.5% to 18.0% (and the Tier 1 component from 8.5% to 16.0%).

The RBNZ expects the majors’ RWA to rise by NZ$40bn to NZ$290bn (BP estimate NZ$330bn or $320bn) and suggested this would require a further NZ$13bn or $12bn Tier 1 capital (Standard & Poor’s estimate ~NZ$13.7bn or $12-13bn vs. BP’s more conservative estimate NZ$19bn or $18bn).

Potential capital increases estimated by some of the majors back in January are:

(1) ANZ NZ$6.0-8.0bn or $5.7-7.7bn (BP estimate NZ$6.9bn or $6.7bn, see the following table); and

(2) NAB NZ$4.0-5.0bn or $3.8-4.7bn (BP estimate NZ$4.6bn or $4.4bn). While the actual impact should be materially lower as additional capital required in New Zealand will not impact at Group level (i.e. Level 2), there is still the potential for RWA to materially increase (given higher proposed risk weights) and for dividend repatriation from New Zealand to decrease.

As a result, there has been recent talk in the market – with noise mainly coming out of Australia as opposed to New Zealand – about the Australian majors possibly demerging their New Zealand operations to get around this conundrum.

In this note, we assess the merits of such a move by looking at some pre- and post-demerger scenarios impacting CET1 capital and ROE.