The bank sector faces medium-term crises of increased competition from disruptive payments and lending entrants, and lower earnings from distressed borrowers, according to one of Australia’s top fund managers.
The S&P/ASX 200 Banks index slid 6.8 per cent during the September quarter, underperforming the S&P/ASX All Technology index by 18.5 per cent over the three months.
Shares in Australia’s largest lender, Commonwealth Bank, closed 9 per cent lower over the quarter to $63.61, while the country’s largest technology company, Afterpay, ended 28.5 per cent higher to $79.99.
Banks have enjoyed a revival lately as responsible lending looks to be repealed, and a stimulatory federal budget improves the position of households.
But with an inevitable arrival of non-performing loans, below-trend growth and changing consumer preferences, Hyperion Asset Management expects the incumbents to continue to face pressure as new entrants move in.
“The low-growth environment is terrible for your traditional banking franchises – it really makes it difficult for them to be able to to grow their revenues,” said Hyperion chief investment officer Mark Arnold. “We think the incumbents are going to lose market share over time – they’re going to get picked off by specialists.”
The payments and financial services sector is highlighted as the key area of interest by Hyperion’s deputy chief investment officer, Jason Orthman.
“We can get an edge and hold these modern payment businesses for 10 or 20 years,” Mr Orthman said.
“Because we’re actually watching how the consumer behaviour and habits are changing for the next generation, and how they use software. And some of them, you get quite powerful network effects.”
The bearish long-term outlook for the traditional banks is at odds with broker UBS’s more positive view of sector returns, based on the normalisation of activity.
“With the economy starting to recover as it progresses through the reopening phase, it now appears that the economic deterioration was less significant than was originally expected,” the broker said.
“As a result, we believe the market is likely to start looking through the weak earnings towards a potential earnings recovery in late FY21 and FY22. We believe the banks could recover to book value (excluding CBA) and potentially higher as dividends begin to grow.”
And while UBS has a buy rating on ANZ, National Australia Bank and Westpac, the broker also warns of the credit risk facing lenders as initial loan deferrals clock six months.
“We believe the banks need to undertake significant due diligence before extending deferrals or moving deferred customers to interest only, as a large number of these borrowers are likely to be under more stress than the banks perceive.
“Many of these customers should be considered delinquent, in our view.”
The risk of rising defaults among borrowers on loan deferrals was underlined in a survey by UBS of 904 Australians who took out a mortgage in the last 12 months. UBS said credit quality was “concerning” among borrowers approaching the end of the six month deferral, who intended to ask their bank for an extension.
“Of these customers we found: 40 per cent overstated their income in their mortgage application (by 21 per cent on average); 15 per cent understated other debts; 67 per cent are on JobKeeper; 25 per cent are on JobSeeker; they have seen their income fall 19 per cent since COVID on average (in addition to the amount they overstated).”
The study was conducted over the last three months.
While the risk of credit losses across the banks’ loan books is lower than the sample surveyed, the lenders’ approach to loan deferrals will be critical to the earnings outlook.
“Given this stress, a recovery in employment and house prices is critical to the banks’ performance,” UBS said.