Who remembers bank bashing? It used to be a national pastime.
Lately, not so much. Interest rates are at record lows, so the banks’ main products through loans are cheap and, in recent years, public pressure has seen the banks pass on rate cuts from the RBA largely in full.
When the big four banks posted a record $28.6 billion in profits at the end of last year, it passed without much comment. It seems we don’t mind the banks rolling in it as long as money has become cheaper and cheaper.
But that may be about to change – and without an increase in the cash rate from the RBA. As Greg McKenna noted earlier this week, there have been some dramatic changes in the Australian banking landscape this month.
Structural pressure on the banks is coming from two fronts. There are international requirements forcing banks to build up more capital through the seemingly innocuously-titled Basel III reforms. And regulators in Australia have been twitchy about the levels of investment lending, particularly to people looking to invest in the scorching-hot property markets in the major cities, described this week by Nobel laureate Vernon Smith as being in a “pretty good bubble”.
The banks have been moving rapidly on a number of fronts. Three of the big four – CBA, ANZ, and NAB – all increased interest rates on their investor loans by between 27 and 29 basis points. Westpac is expected to follow suit.
AMP went further, announcing a moratorium on investor lending and jacking up its investor loan rate by 49 basis points. And AMP stated openly that it was about responding to concerns from the domestic regulator, APRA, about the levels of activity in housing lending.
But all that activity was around investor loans. Morgan Stanley analysts think all home loans are now in the firing line.
The investment bank, has a dim outlook on Australia banks compared to other sectors of the Australian share market. It has long been forecasting some mortgage price changes but in a note to clients says that after targeting property investors, the banks might be primed to move on the owner-occupier market.
When you look at the loan mixes of the major banks, you can see why even a small price rise in owner-occupier home loans will make a big difference to banks’ bottom lines. Via Morgan Stanley:
Now, the opportunity might come if the RBA cuts interest rates again, and the banks could choose to pass on less than the full 25 basis points. This happened when the RBA cut the cash rate by 25 basis points back in May, and major lenders cut their loan rates by between 10 and 20 points.
But the outlook for RBA rates, for now, is very flat, so the banks could move anyway because they will be fighting to protect their profit margins as the capital holding requirements mount.
The number they’re working on is a 10 basis point rise on mortgage interest rates for owner-occupier loans, but there is potential for any moves to be greater than this.
Here’s Morgan Stanley:
All else equal, a further 10bp would lead us to upgrade EPS estimates by ~1% at ANZ, ~2% at CBA, ~3% at NAB and ~2% at WBC, on an annualized basis. However, we’re concerned that consensus estimates do not yet fully incorporate future capital raisings or the impact of lower cash rates. This means more re-pricing is needed to limit downgrades to consensus EPS estimates.
Simply put, in the battle between shareholders and customers, shareholders are going to win. The need for banks to protect the attractiveness of their shares in the market will outweigh the need to keep customers happy.
Taking this theme further, Morgan Stanley noted (separately) this week that the changes to investor loans may not be enough to protect bank profit margins, and this is where a concentrated market will help. From that note:
There is some pricing power being demonstrated by the oligopoly. In the past week, SVRs have been re-priced for investment property loans… Our team expects … each of the banks will re-price owner occupied loans (OOL) at some stage, but not by the same amount. This however mitigates EPS headwinds rather than disposes of them.
Our concern is that consensus estimates do not yet fully incorporate future capital raisings or the impact of lower cash rates. This means more re-pricing is needed to limit downgrades to consensus EPS estimates for the Banks. In addition we view the looming economic optics as presenting more risk than opportunity to Banks earnings profiles – as such we retain the underweight stance.
This should not be all bad news for consumers: it actually sets the stage for a fresh competition front between the banks and their smaller rivals. Those who are prepared to wear some reduction in short-term profits by holding out on lifting prices could grab a bigger share of the market.
But this is a view that sees tough decisions ahead for banks, and tough times for consumers. Australian consumers have been in something of a funk for some time even with mortgage repayments falling on existing homes for years. An outbreak of mortgage price increases when many people are already nervous about the potential for a housing correction is not going to help.
(The irony is should the banks increase mortgage rates by 10 points or more in an out-of-cycle move, it may prompt the RBA to cut interest rates again – likely against its will – in order to keep monetary policy settings at an appropriate level and keep cash moving through the economy. The banks could then pass on a bit less than that cut, and trouser the difference. Double dip!)
Even if the banks do put up mortgage rates by, say, 10 points, rate rises independent of the RBA will have many people justifiably wondering what’s coming next.