Earnings season continues here in Australia. It's a dour day for the Commonwealth Bank of Australia. One of Australia's four big banks, Commonwealth Bank (ASX: CBA) reported the slowest profit growth in three years today. Net income was up a modest 8% to A$2.37 billion.
Jesus wept.
It may be determined to be different, but Commonwealth Bank is facing the same margin squeezing credit crunch as all the other Aussie banks. "The net interest margin, a measure of lending profitability, narrowed 5 basis points to 2.17 percent as funding costs increased A$100 million amid tighter global credit markets. Provisions for bad debts jumped A$138 million as interest rates rose," reports Stuart Kelly at Bloomberg.
No one will have much sympathy for Commonwealth Bank. It raised interest rates on variable home loans by 30 basis points after the Reserve Bank's last quarter point rise. On top of the 10 basis point preemptive raise in January, Australia's largest home lender now charges 8.97% for its variable rate mortgage loans.
By the way, this is still one basis point lower than NAB's variable rate and lower than ANZ's variable rate of 9.02%. But all the banks are in the same neighborhood, aren't they?
And are they a buy? We looked at the chart for Macquarie Bank (ASX: MQG) yesterday and suggested that the stock might have at least some technical support at $60. But a line on a chart can only tell you so much. What is the business really worth today?
"In our view," writes our friend Greg Canavan at Fat Prophets, "the market does not believe the earnings forecasts for the sector. Neither do we. As we have stated in previous reports, we believe bank sector earnings have peaked and profitability is likely to decline as the cycle turns down."
"The chart below from the Reserve Bank of Australia shows the long term profit growth performance from the major Australian banks. Since Australia's last recession in the early 1990's, the banks have produced exceptional profit growth. However it is unrealistic to expect anything like this to continue. We are entering a bear market in credit, and we believe the Australian banking sector is in a bear market too.
"This may seem an alarmist statement considering credit growth is running at the highest annual rate since 1989. But that is just the point, 1989 proved to be the last cyclical peak and we believe credit growth is peaking again. And given the comments coming from the RBA, interest rates are set to remain relatively high and credit is therefore expected to remain expensive.
"Credit growth is important for banks because it translates into growth in banks' assets. If an individual borrows $250k from a bank, it is a liability on the individuals' balance sheet but an asset on the bank's. One man's debt is another man's asset. Banks earn a margin on their assets based on the difference between their cost of borrowing and what they charge the borrower. So all else being equal, asset expansion translates into profit growth.
"In recent years, banks have fuelled their profit growth by securitising assets (mortgages for example). This is a process whereby assets are packaged and sold to a third party. Removing assets from the balance sheet in this way frees up capital to make additional loans. It is fair to say that this game is over for the banks for the time being."
Dan Denning
The Daily Reckoning Australia
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About the Author
Dan Denning is the author of 2005's best-selling The Bull Hunter (John Wiley & Sons). He began his financial publishing career in 1997 and has covered financial markets form Baltimore, Paris, London and, beginning in 2005 Melbourne. He’s the editor of The Daily Reckoning Australia and the Publisher of Port Phillip Publishing.
Comment by christina on 14 February 2008:
I heard that during the last war and great depression, the Commonwealth bank suspended payments on houses for a while, to help home buyers. It went down in history as "what a kind bank they were" Many of those customers would still be with them now- and their kids kids etc. I know I am because of the stories my Mum told me about all that, how nise they were to the battlers back then. Now, if they were smart, they would use that to their advantage in their marketing and tell people about it now. With a headline like "We survived the last great crash, so you know we'll survive this one too"
Or: "We helped your grandparents out of the same mess, and we'll help you too" Or how about "We came through the great depression and war stronger than ever and we helped our customers then- so yo can trust us to help you now too" Or how bout this headline: "9000 banks in America went broke during the last great depression, but we stayed open and remained stronger than ever AND we helped our customers to survive through the crisis!" Now that would be some smart marketing. They would acquire more customers for generations to come if they did that. Being a marketer myself, I know this to be true. But no, instead they decide to be cheeky and go the opposite way. They raise their rate more than the reserve bank says to, and act terribly, as though their customers are nothing to them. They should remember one key point- the coming depression will last say 13-15 years. People do remember how they have been treated you know. After 13-15 years- what do they think all their customers will do then who have been treated like dirt- thats right- I'll bet they all say seeya later. And they'll tell their kids, and they'll tell their kids etc etc. For generations to come, they will go down in history as idiots who did that. And they had the best marketing angle- a history of helping people. Why are they stuffing it up for themselves?
Comment by John on 14 February 2008:
Maybe I'm looking at this from the wrong angle, but as Australia keeps raising rates and the rest of the world keeps lowering, we should see a large flow of capital into Australia from the rest of the world.
And why can't they securitize mortgages if the rates are close to double digits? That's a huge risk premium.
Comment by novosonic on 14 February 2008:
ha ha ha..... who it their right mind would buy bank stocks or financials.... pull the plug... beep beep beep beep beep beep beep beep beep beep beep ____________________________ flatline.
now if mugumbo guru sends $5 for my cd sampler and $5 for my dvd, and includes $20 for overnight air freight (cash) i'll send him two discs plus a $30 collectible 1969-D half dollar ! (bill included)........
com'on the PARTY is about to begin........
Comment by first commonwealth bank on 15 February 2010:
It might raise the interest rate too high in my point of view. However, this site is informative, it can help me know about the bank process.