The major banks will release their results over the next couple of weeks. Having generally lagged the market over the last few years, the bank stocks have been relative winners in the last six months as fears around bad debts eased.
The most recent updates in February showed not only an improvement in the outlook for credit losses but also the potential for future capital releases. Additionally, demand for credit was accelerating, and their performance on net interest margins had been more stable than the market expected.
The market will be looking for signs this positive momentum has continued to build in both the demand for mortgage and business credit while pressures on net interest margins remain controlled.
External data from both APRA and the Commonwealth Bank of Australia (ASX:CBA) indicate that mortgage book growth should continue to improve on the back of lower rates, which has increased activity and driven up residential property prices. Recent releases from Australian Finance Group (ASX:AFG) and CBA showed new mortgage applications continued to grow well above 30 per cent in the March quarter, an acceleration on December quarter growth rates. Refinancing activity has slowed relative to the first half of CY20, with an increased proportion of applications coming from new home buyers. This should benefit mortgage book growth rates, albeit higher savings and lower interest rates are likely providing an offset through an increased rate of repayment.
After a slow start in the early part of the COVID recovery due to fiscal stimulus, demand for business credit began to accelerate toward the end of CY20. The market will be keen to see whether this has continued to gather pace as is indicated from industry anecdotes and data.
The banks were able to offset the impact of front to back book margin mix, falling returns from liquid portfolios and the inertia in funding costs from an increasing proportion of deposits paying no interest through the repricing of term deposits and a mix shift in deposits toward low rate transaction accounts. The question is how long this offset can continue to bolster net interest margins against the ongoing downward pressure of front book pricing, decreasing funding cost advantages from deposits and falling liquid asset returns.
The other focus for the market will be the outlook for credit provisioning. December quarter net charges were materially lower on a sequential basis as the number of COVID hardship cases declined to manageable levels. The banks were hesitant to release their substantial collective provision overlays at that time, flagging that the performance of loans once JobKeeper and JobSeeker ended remained a risk. With those programmes having ended a month ago, the banks will be in a much better position to assess that risk when the results are released. Additionally, the Australian economy continues to surprise on the upside, with strong growth in employment and job ads as well as robust consumer confidence and spending. While it is probably still too early for the banks to announce a release of this provisioning, commentary is likely to point to this being likely in the near term.
The other area of focus for the market will be costs with both Australia and New Zealand Banking Corp (ASX:ANZ) and Westpac (ASX:WBC) releasing cost reduction strategies. Westpac’s announcement will be particularly important given the change in management last year, its weaker relative performance of costs in recent years, and the release of its 3-year strategy. This will include a review of its asset base and planned divestments. We see this as a key catalyst for the stock given the potential step change in CET1 capital, earnings margins and ROE that could result.
The Montgomery Funds own shares in Westpac and the Commonwealth Bank of Australia. This article was prepared 23 April with the information we have today, and our view may change. It does not constitute formal advice or professional investment advice. If you wish to trade these companies you should seek financial advice.