Insurers deliver, but Australia’s banks remain split in two

Suncorp and IAG delivered results last week that were ahead of market expectations, underpinned by strong written premium and volume growth despite La Nina and elevated natural hazard claims more generally. Meanwhile, results from Australia’s big banks raised as many questions as they answered. What do rising interest rates mean for Australia’s big 4 banks, and where is growth most apparent?

Now all the banks have now reported what drove the results and were there any themes or trends to call out for the banking sector as a whole?

The trends we saw in the fourth quarter 2021 have unsurprisingly continued. Net interest margin declines particularly for the larger mortgage banks of CBA (ASX:CBA) and Westpac (ASX:WBC) are quite large and this has been driven by lending competition, particularly around the stark repricing of their fixed rate mortgages. Both CBA and Westpac participated in their self-defeating battle, which substantially repriced both their front book and also their back book via low priced fixed rate mortgages. Increased liquidity or deposits also continue to weigh on margins for the sector and this really will be an ongoing issue. However increased cash and market rates should ease some of these headwinds around deposits eventually. ANZ (ASX:ANZ) in particular called out the impact of rising rates, which are expected to be positive during the second quarter. NAB (ASX:NAB) without doubt had the best quarter of all the banks and like ANZ, didn't participate in the fixed loan repricing debacle. NAB surprisingly grew revenue by 5% ex-markets income, which is one of the better results that I've seen in recent times. The growth was driven by an excellent net interest income outcome, but also strong loan growth helped by their SME and business divisions. The sector though is extremely well capitalized and has little impairment issues and should benefit from the turn in the interest rate cycle. Therefore, overall the sector does look reasonably attractive.

Downer EDI saw interim profit increase, but has been hit by issues relating to the pandemic. What's your take on the results?

Downer (ASX:DOW) was hit by both a combination of the COVID shutdowns in the second half of the year and some rain impacted issues on the East Coast which did result in profits being below market expectations. However, it does appear that a number of these issues are one-off in nature. The underlying business fundamentals remain sound as it's backed by over 90% of their work in hand, being government or government related. Labour issues have started to see signs of stabilisation with less absenteeism and Downer commented that costs have been well managed with cost escalators in some of their contracts. The balance sheet remains very strong and cash conversion is solid. Therefore Downer was a classic stock impacted by Omicron, but the market should look through this given the positive, long term fundamentals of the company.

Suncorp Group announced a cut to its interim dividend, amid a fall in profits and revenue during the first half of the 2022 financial year impacted by La Nina and COVID, what's your outlook for the company going forward?

Both Suncorp (ASX:SUN) and IAG (ASX:IAG) reported this week and both positively surprised the market with strong gross written premium growth. This was primarily driven by increased insurance premiums, but both companies also saw some reasonable volume growth. Both stocks have outperformed during the month and on the day of their results. The turning interest rate cycle is positive for investment returns on policy funds and this really is a tailwind for the insurance sector. Natural hazard claims were elevated for the half and this has adversely impacted the bottom line. The expectation is perhaps natural hazard claims may alleviate in the second half of the year. So overall, the sector does look quite positive.

With a number of big names still to come, which companies will you be focusing on next week?

Week three is always the busiest of reporting season and we have several stocks within our portfolios that we’ll be focusing on. The energy names such as Woodside (ASX:WPL), Santos (ASX:STO) and Origin (ASX:ORG) are all reporting and it will be quite noteworthy what pricing they have received on the LNG exports given the combination of high oil prices and elevated LNG spot pricing. Profits and cashflows should be strong for the sector. Both Woodside and Santos have M&A corporate news that may interest the market. Santos is looking to sell down some of its equity in their assets post the OilSearch (ASX:OSH) merger and Woodside is in the process of merging with BHP’s oil business and so the market will be interested on any update on that as well. Week three, as normal will be extremely busy.

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