Super funds buy expensive bank stocks
Pension funds have been the main buyer of bank stocks, while investment funds have been the main seller, along with households.
As has been the case for some time, Australian bank equities appear very expensive when valued relative to both history and bank bonds.
For example, the 1-year forward price-earnings ratio for banks has averaged around 20 over recent months, well above the pre-COVID average of about 12.
As for valuing equities relative to bonds, the earnings yield – which is just the inverse of the price-earnings ratio – is very low at only 5%.
Equities are riskier than bonds, such that the earnings yield on bank stocks has historically been about 6¼pp higher on average than the real yield on bank bonds.
Over recent months, that margin has shrunk to around 3¼pp given the low earnings yield of 5% and a relatively steady real bond yield of 1¾%, which is the smallest gap between the two series since the aftermath of the global financial crisis.
While these metrics are not meant to signal when valuations are likely to return to normal, ABS data, which are unfortunately dated, show that buying of bank equities has become very narrowly based as stocks have become expensive.
In broad terms, banks have reduced their equity liabilities over recent years, but pension funds have been the largest and most consistent buyers of stocks, with the Future Fund also a small net buyer recently.
Overseas investors have bought stocks at times, but have been broadly neutral over the past year.
On the flipside, all other sectors have sold bank stocks lately, with investment funds the most aggressive and consistent sellers.
Households have also sold stocks, as have insurers and other domestic financial institutions.
The valuation measures suggest that pension funds are buying stocks when they are significantly overvalued, with the allocation of super fund assets to bank equities increasing from low of about 4% of total assets a couple of years ago to around 5%.
However, in the scheme of things, the increased allocation towards domestic bank stocks is a relatively small change for pension funds, exceeded by a recent shift out of an extremely large allocation to domestic investment funds into overseas equities, which span regular equities and overseas investment funds.
The former has fallen from a peak of 35% of total pension fund assets over 2021 to 31% earlier this year, while the allocation to overseas equities has continued the upward trend of more than a decade, rising from 17% in 2021 to 21% over the same period.
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Based in Sydney, Kieran Davies is Chief Macro Strategist at Coolabah Capital Investments, an asset manager with 40 executives and over $8 billion in fixed-income strategies. Kieran is responsible for macroeconomic research and investment strategy, contributing to the investment decisions of the firm. Kieran has long experience as a macroeconomist in both the private and public sectors. He has worked most recently as Chief Markets Economist for National Australia Bank and was previously Chief Economist, Australia and New Zealand, for Barclays Bank and ABN Amro Bank/RBS. Kieran also worked as Principal Adviser on the macroeconomy and budget policy in the Commonwealth Treasury and Director of Forecasting.
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Based in Sydney, Kieran Davies is Chief Macro Strategist at Coolabah Capital Investments, an asset manager with 40 executives and over $8 billion in fixed-income strategies. Kieran is responsible for macroeconomic research and investment strategy,...
Based in Sydney, Kieran Davies is Chief Macro Strategist at Coolabah Capital Investments, an asset manager with 40 executives and over $8 billion in fixed-income strategies. Kieran is responsible for macroeconomic research and investment strategy,...
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