Why Investors Should be Worried over the Big Four Banks

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Stock prices at the big four banks have nosedived since Wednesday afternoon (April 29). That’s left some investors feeling nervous. NAB [ASX:NAS] is down $0.70. ANZ [ASX:ANZ] shares dropped by $0.80, with Westpac [ASX:WBC] down almost $1. Commonwealth [ASX:CBA] has been worst hit, trading almost $2 less at $88.87.

Investors have wiped $20 billion off the market value across the major banks. That’s a 5% decline since trading closed on Wednesday.

What’s caused this sudden decline? Regulators.

The banks have been threatened by APRA over their speculative loans to property investors. Banks are fuelling the property market because demand is high. And demand is high because borrowing is cheap.

Average lending across the big four banks expanded by an annual rate of 10.4% in March. NAB was the most active, expanding their loans by 13.8%. To put this in perspective, APRA’s recommended threshold is below 10%. The banks are concerning regulators because the target is designed to prevent the economy from financial meltdown. Or so the theory goes.

My colleague Callum Newman revealed the lunacy of this in The Daily Reckoning on Wednesday. He knows that capital ratios don’t matter because banks can create credit out of thin air. You place regulatory constraints on banks, and they’ll find a way to bend the rules. Remember what happened in 2008? Banks will always find a way to flout the rules, because they retain the power to create money.

Why regulators want to increase capital requirements for banks

APRA wants to increase the capital (money) that banks hold to stop the growth of rampant lending. Doing so would place the big four banks among the most overcapitalised in the world. It would lead to lower returns for investors, and higher mortgage costs for borrowers. An increase in capital ratios would result in higher mortgage rates because money wouldn’t be as cheap to lend.

This is worrying banks because investors would foot the bill — and the banks would have no choice but to ask investors for more capital to shore up balance sheets. That’s the only action that would allow them to maintain higher returns for investors. You’d be right in wondering if that is really as ridiculous as it sounds. Investor capital being used to increase investor returns — but that’s the world of banking for you.

The banks may lessen the blow of this by retaining more of their profits. Now you can see why investors are panicking. Dividends are on the line, and investors respond poorly to signs of lower returns.

Adding to their problems, economists are predicting that interest rates may stay on hold in May. If they’re proven right, the big four banks would have even less money from the RBA to play around with. And any penalty adding capital requirements would put even more pressure on banking stock.

None of this is a surprise to us. The Daily Reckoning’s Vern Gowdie predicted a tough year for banks in his free report ‘Five Fatal Stocks You Must Sell Now’. You need to read which banks made his blacklist. And he’s also identified one other blue chip stock (not a bank) that’ll catch you by surprise. To find out how to download the report, click here.

Mat Spasic,

Contributor, The Daily Reckoning

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The Daily Reckoning
The Daily Reckoning offers an independent and critical perspective on the Australian and global investment markets. Slightly offbeat and far from institutional, The Daily Reckoning delivers you straight-forward, humorous, and useful investment insights from a world wide network of analysts, contrarians, and successful investors. Founded in 1999, The Daily Reckoning is published in 7 countries with a worldwide readership of almost 1 million people.
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