Still positive on the banks

Sam Ferraro

There is plenty of bad news buffeting the banks, but I remain positive on the sector because pricing suggests that investors have become too gloomy on the sector’s prospects. The sector is trading on a book multiple of 1.9x which represents a 50% discount to the non-bank industrials.

In the past two decades, dispersion of this size has only occurred two other times; during the financial crisis and in the early 2000s (see chart). Despite the fact that higher capital requirements have crimped the banks’ ROEs, the sector’s profitability remains higher than non-bank industrials.

A lift in bank provisioning was a key theme to emerge from the sector’s reporting season. The historically low rental yields in residential but particularly commercial property have seen the banks rightly adopt a more conservative stance provisioning. The focus on asset quality in these areas is likely to continue for the foreseeable future.

A key risk to the sector has already played out, with the Government announcing the introduction of a 6 basis point levy on banks’ liabilities in the Budget, which has already been endorsed by the ALP. APRA recently flagged the prospect of more stringent capital requirements.

But a downturn in the commercial and residential property markets represents the key tail risk to the sector thanks to historically low rental yields. Rental incomes – which are already growing at their slowest rate in two decades – are likely to be subject to downward pressure as a glut of apartments come onto the market in Brisbane and Melbourne over the next three years.


Sam Ferraro

Founder of Evidente, Salvatore Ferraro, is a top rated quantitative analyst and has over 17 years of experience in financial markets, with investment banks, Goldman Sachs and Merrill Lynch, providing advice on best practice to portfolio managers...

Expertise

No areas of expertise

ASX:ANZ ASX:CBA ASX:NAB ASX:WBC

Comments

Please sign in to comment on this wire.