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Aussie banks the world’s most profitable

by Adam Courtenay | 29 Mar 2016

Australia is not America, where huge profitability in any sector is lauded, big returns fêted and dominance of an industry considered an important show of economic and national strength.

Few, however, laud the fact Australia’s four big banks enjoy the highest profitability in the developed world, according to the Bank for International Settlements (BIS). Its figures highlight the big four’s consistently high returns and massive yearly profits.

In March the Reserve Bank of Australia (RBA) echoed previous statements from the BIS, confirming that the big four are the most profitable banks in the world.

Analysis by the RBA shows that, in terms of return on equity (ROE), the big four banks averaged about 15 per cent by the end of 2015, ahead of Canada’s banks (14 per cent) and more profitable than banks in the US and Europe, whose ROE came in at less than 10 per cent.

While the profitability of Australian banks has been largely unchallenged for the past few years, this could be changing. 

In late March the ANZ reported its bad debt costs for this half will be at least $100 million more than it expected last month. Behind it are failed loans made to the flagging resources sector. 

ANZ said its total charge for bad and doubtful debts for the first half would be at least $100 million more than the $800 million figure it had flagged in mid February. It has also admitted to rising bad loans in South East Asia for its lending business, which has prompted analysts to lower the bank’s forecast.

These bad loan problems are looking contagious. On the same day ANZ flagged its rise in bad loans, Westpac says it has been experiencing pockets of stress, primarily due to personal loans in Western Australia and Queensland, the two biggest resources states.

Banks have been raising their interest rates since July last year. Investor loans rose by 0.3 per cent and 0.4 per cent last July, followed by another hike in November. The banks have blamed the rises on the need to provision for extra equity capital for new regulatory requirements that come into play in July.

Azib Khan, senor banking analyst at stockbrokers Morgans, says profitability can be seen in two ways. First there are the dollar numbers splashed across headlines, then there is the return on equity, on which the BIS and RBA numbers are based.

“The headlines tend to be about banks being incredibly profitable, profits continue to rise and customers are being pillaged,” Khan says. “But that’s not how I look at it. It’s about return on equity and even more precisely, return on tangible equity,” he says.

Return on tangible equity (ROTE) is considered the most accurate way to estimate true profitability, says Khan. It adds in intangibles such the acquisitive mode of the bank and the goodwill on its balance sheet. The ROE numbers don’t reflect this, he says.

Interestingly, Khan says Australian banks’ ROTE has decreased markedly since 2005 when it was at around 27 per cent. It is now about 17 per cent and appears to be falling.

“The main point is the increase in the regulatory capital requirement which has been far greater than the increase in profits,” Khan says. 

In terms of returns to shareholders, they have been decreasing and we have seen a decline in the banks’ overall share prices as a result.

The big four Aussie banks are the only brands in the top 500 globally, according to brand valuation consultancy Brand Finance. In other words, their overall brand value goes beyond Australia and they are known throughout the world, according to the Australian head of Brand Finance, Mark Crowe.

Its figures show the big four are all in the top 10 Australian brands but their actual enterprise value has dropped. The Commonwealth Bank is the only bank to have added value, up just two per cent since 2015. ANZ, Westpac and NAB have fallen 12 per cent, six per cent and one per cent respectively, Crowe says.

As Khan explains, all banks across the world, not just the Aussie ones, will be suffering from higher regulatory capital requirements. So he expects the profitability of the four Australian banks to remain relatively high.

“We’re waiting for the international standard setter, the Basel Committee to finalise standards and then we’ll see how the Australian Prudential Regulatory Authority implements these standards,” says Khan.

Some of the bigger, global banks are much more complex institutions than our big four. I would expect a greater increase in operational risk capital charge relative to Aussie banks. The larger the bank, the greater the weight of capital requirements.


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