The Great Complacency: Despite widespread concerns that the yield trade has run its course, the bank sector should continue to offer outperformance in the near...

The Great Complacency: Despite widespread concerns that the yield trade has run its course, the bank sector should continue to offer outperformance in the near term for a number of reasons: loan loss provisioning is likely to under-shoot analysts' expectations, valuations are not stretched, and the sector's payout ratio remains in the historical range. But over the medium term, investors should be cautious on banks due to the great complacency: the sector's index weight is close to an historical high of 30% and Australia's banking system remains under-capitalised, and will remain so even if the government embraces the Murray Inquiry's interim recommendations for a modest rise in capital ratios. Given the sector's razor thin loss absorbing capital, even a small decline in asset values could lead to a crisis of confidence. (VIEW LINK)