Westpac Banking Corp
This is one of the best-known companies in Australia being one of the largest stocks on the ASX and one of the largest mortgage lenders in the country. For many years, it has produced share price growth and rewarded investors with high dividends. However, the shares took a beating when the net profit for the first half remained unchanged from the previous year at $ 3.6 billion. Analysts said the results were poor and should be regarded as a big miss. The cash profit figure which is the metric favoured by the bank to measure its performance also remained unchanged from the previous year. However, despite the static profits figure, the band raised its fully franked interim dividend by 3% to $ .93 per share.
Strong Balancesheet (Source - Company Reports)
The bank's new chief executive Brian Hartzer who took over in February 2015 said that the key businesses of retail and business banking were performing well. However, the results were negatively affected by adjustments relating to derivatives in the WIB business and a lower return from treasury. However, a number of important metrics indicate a different picture return on equity declining by 67 basis points to 15.8%, Tier 1 capital reducing by 8 basis points to 8.8% and static profit margins (excluding the underperforming treasury and markets business mentioned by Hartzer ) at 2.01% and expenses rising by more than 1% to 42.5% of income. The bank has announced that it will provide shareholders who opt for the dividend reinvestment plan with a discount to encourage them to boost its capital especially with the prospect of higher capital requirements resulting from the financial system enquiry by the Federal Government.
We believe that, like all the other major Australian banking stocks which have lost billions of dollars in market value, the correction was long overdue because just a couple of months ago, these stocks were trading at the biggest premium to the global average as calculated by Bloomberg. The shares leading the market on a six year bull run have lost ground amid market concerns about higher capital requirements. Australian banking stocks were also popular because they pay the highest dividends among bank stocks.
The bank has recently been notified by the APRA of the interim changes in the calculation of risk-weighted assets for Australian residential mortgages. Based on the portfolio as on 31 March 2015, the risk-weighted assets for the bank will increase by $ 40.7 billion and the ratio of mortage risk-weighted assets to mortage exposure will increase from around 16% to around 25%. Consequently, the bank estimates that it will require further capital of $ 3 billion to lift its tier 1 ratio to its preferred levels. The company believes that there will be no problem raising the additional capital but given its recent results, the market is not going to be highly enthusiastic about providing the capital.
After taking into account these factors and the declining metrics, we believe that the stock is overvalued at its current price and recommend that you Sell.
Commonwealth Bank of Australia
In its trading update for the March quarter, the bank announced that catch earnings were approximately $ 2.2 billion and statutory net profit also came to the same figure. Revenue growth was similar to the first half of FY 2015 but net interest margin continues to be under pressure in a competitive market and trading income continues to be strong. Expense growth for the quarter was higher because of costs associated with regulation, compliance and remediation as a result of legislative reforms.
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Cash Npat (source - Company Reports)
In the key markets, home lending growth in volumes continue to be lower than the system because of the consistency in maintaining an underweight position in the high growth areas of segments relating to investment and brokers. Core business lending growth remained in the mid-single digit range. Growth in household deposits was particularly strong balance is growing at an annualised rate in excess of 10%. In the wealth management business, Funds Under Administration and Assets Under Management grew by 7% and 8% respectively because of strong investment performance, net inflows and foreign exchange gains. Insurance in force premiums grew by 3% over the preceding quarter and growth in ASB business and rural lending remained above the system and home loan growth was strong.
Liquidity + Capital (Source - Company Reports)
Credit quality remained high. In the retail portfolio, home loan and credit card arrears were flat while seasonal factors contributed to higher arrears in personal loans. Troubled and impaired assets were lower at $ 6.4 billion and loan impairment expenses were $ 256 million and strong levels of provisioning were maintained. The group Tier 1 ratio increased by 20 basis points to 8.7% and the comparable CET 1 ratio was 12.7%. Funding and liquidity remain robust with customer deposits funding of 64% and the average tenor of the wholesale funding portfolio is 3.9 years. Liquid assets totalled $ 144 billion and the Liquidity Coverage Ratio was 122%.
Despite two big announcements from the APRA, regarding making Australian banks strong in international terms and increased capital levels against mortgages, there are still some doubts about the ultimate levels of capital adequacy. The problem for the bank is that raising too much equity in a short period of time will cut into the return on equity while too little capital would undermine the confidence of investors. It could try other initiatives such as the sale of assets like its Sovereign New Zealand life-insurance business and cutting its dividend temporarily a dividend cut would not play well with the large base of retail business who depend on the dividends.
Household Deposits (Source - Company Reports)
We believe that investors have overblown expectations from the Australian banking generally and this has raised share prices to unrealistic levels in the belief that the good times will last forever. Like the other stocks, we believe that the bank shares are overpriced at current levels. Moreover, the forecast dividend yield, though not unattractive, of roughly 4.9% pales in comparison to the dividend yields offered by the bank in the past. There is no doubt that the bank is one of the best and strongest institutions in the banking sector but we think that the price is wrong. Accordingly, we are placing a Sell recommendation on the stock.
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