The great news for dividend hungry shareholders is that compared to last year, bank dividends are set to soar this year. They won’t get back to pre Covid-19 levels this year, but they will be significantly higher than the market was expecting just a few months ago.
What’s changed?
From a regulatory perspective, APRA withdrew its guidance “that dividends should be no higher than 50% of statutory profits.”. This had an enormous impact on dividends in 2020 for two reasons: firstly, the payout ratio was below the 80% ratio most banks were targeting; and secondly, it was based on statutory profits rather than underlying profits, which due to write-offs, fines and customer remediation costs, were significantly lower.
While APRA hasn’t given financial institutions cover to resume paying dividends at pre-Covid 19 levels, saying: “APRA expects banks and insurers to continue to moderate dividend payout ratios, and consider the use of dividend reinvestment plans (DRPs) and/or other capital management initiatives to offset the impact on capital from distributions”, the withdrawal is a “green light” for significantly higher dividends.
From a profitability perspective, conditions have improved. Economic activity has picked up, employment is rising, business and consumer confidence has improved and borders have largely re-opened.
The banks appear to have over-provisioned for the impacts of Covid-19, with key assumptions of a fall in house prices of 10% and soaring unemployment being way too pessimistic.
The latest figures from APRA show that the value of home loans where interest is being deferred has fallen from a peak in May of $192bn to just $43bn at the end of December. 80% of home loan borrowers have resumed paying interest. For small business, it is even better, with 90% of borrowers paying interest again and the value of deferred loans plunging from $56bn to $6bn.
Credit growth is rebounding, with aggregate housing credit growing by 3.5% in the year to December and business credit by 1.0%. While still relatively low numbers, banks will enjoy volume growth.
On interest margins, the stabilisation of the yield curve and banks being awash with liquidity means that the headwind of declining net intertest margins should abate. Some brokers are even suggesting that margins may improve.
This adds up to an improving revenue picture, and while “low single digit” growth is probably the best that can be expected, it is a big change from the outlook in 2020. And while the banks are unlikely to writeback their Covid-19 provisions yet, they shouldn’t need to add to them so the bad expense line will be significantly lower.
Underlying profits in 2021 will be up on 2020.
Bank boards will, however, approach the setting of dividends in 2021 with a conservative bias, conscious of “precedent setting”. Boards don’t like to cut dividends, and if they raise them too quickly, they might create a situation where they have to cut again. So payout ratios won’t zoom back to pre Covid-19 levels straight away. There will be a good sized increase in 2021, and assuming everything is on track, a further increase in 2022.
Here is what you can expect by way of dividends and capital actions from each of the major banks.
1. Commonwealth Bank (CBA)
The CBA will be the first of the major banks to show its colours when it reports first half profits next Wednesday (10 February). In 2020, it paid an interim dividend of 200 cents (this was declared before APRA imposed the 50% limit), and a final dividend of 98c for a total of 298c per share. Pre-Covid, it paid 431c – an interim dividend of 200c and a final dividend of 231c.
The bank is sitting on a truckload of capital, with a CET1 (level 2) capital ratio of 11.8% on 30 September, with another 50-60 basis points to come from announced disinvestments. CBA also has considerable surplus franking credits.
On consensus, the major brokers have CBA paying a dividend of 311.5 cents in FY21. The range is wide, from a low of 250 cents to a high of 360 cents per share.
The CBA Board will be a little concerned about an apparent “cut” to the first half dividend, so it will want to ensure that the 2021 dividends exceed the total amount paid in 2020. I favour a dividend payout ratio in the order of 70% to 75% of underlying earnings, implying a dividend of around 320 cents per share for FY21 (first half 160 cents), rising to 360 cents in FY22. This puts CBA on a prospective yield of 3.8% and then 4.3% for FY22.
An off-market share buyback is on the cards. While I wouldn’t rule out an announcement on 10 February, an August timeframe, when the situation with Covid-19 is clearer, is more likely.
2. ANZ Bank
Until Covid, ANZ had paid 160 cents in dividends – two halves of 80 cents each. It had foreshadowed that because of the contribution of earnings coming from New Zealand, franking would reduce to 70%.
When APRA issued its guidance last year, ANZ took a very conservative approach and suspended its interim dividend. It subsequently paid out 25 cents in late September, and then a final dividend of 35 cents, making a total of 60 cents for the full year. Because the payout ratio was less than 50%, it was able to fully frank both dividends.
New ANZ Chair Paul O’Sullivan did not give too much away at ANZ’s AGM in December, reaffirming that the “Board is acutely aware of the reliance many shareholders place on their regular dividend, and on the value of franked dividends” He went onto say, however, that “ultimately, our final decision will be influenced by how the remainder of the crisis evolves, particularly from a macro-economic perspective, and our views on the longer term sustainability of our dividend”. ANZ was keen to stress that it hadn’t diluted shareholders with a capital raising (unlike the NAB or Westpac).
The brokers forecast ANZ to pay dividends of 109.1 cents for FY21 (low of 98 cents to a high of 127 cents), and in FY22, 128.7 cents per share. My sense is 120 cents for FY21 and 130 cents for FY22, with at least 80% franked. This puts ANZ on a prospective yield of 5% for FY21 and 5.5% for FY22.
ANZ is well capitalised with CET1 ratio of 11.3%. However, capital actions are unlikely in the short term and because it does not have access to surplus franking credits, off market share buybacks aren’t on the agenda.
3. National Australia Bank
NAB raised $4.25 billion of capital at $14.15 per share at the heights of the Covid-19 crisis. This helped increase NAB’s CET1 ratio to 11.47% (as of 30 September), which will rise to 11.82% post the completion of the sale of MLC.
But it also increased the number of ordinary shares on issue by approximately 10%.
In FY19, NAB paid dividends totalling 186c – two dividends of 83c each. In FY20, NAB paid two dividends of 30 cents each, the final on the enlarged share base.
Commenting at the AGM in December, CEO Ross McEwan said: “we are a dividend-paying stock and we will resume paying at higher levels when it’s right to do so”. He was quite optimistic about the strength of the recovery, and said that the current economic picture reflects what “we considered to be best case In our scenario planning from earlier in the year.” He emphasised that “achieving double-digit cash returns on equity will be a key measure of our success” and that “cost and capital discipline are essential to delivering better returns”.
On consensus, the brokers have NAB paying a dividend of 104.6 cents in FY21 (range low of 88c to high of 130 cents per share), and in FY22, 115.3 cents per share. I favour 110 cents in FY21 and 120 cents in FY22. This puts NAB on a prospective yield of 4.7% for FY21 and 5.1% for FY22.
Although NAB’s capital ratio is healthy, it is difficult to envisage a capital return so shortly after a substantial capital raising. Maybe in FY22.
4. Westpac (WBC)
The laggard and clear under-performer of the 4 major banks, Westpac abandoned its interim dividend in FY20 and just paid a final dividend of 31c. This represented a cut of 82% for shareholders from the 174 cents paid in FY19.
New Chairman John McFarlane and CEO Peter King didn’t have much to say at the company’s AGM. McFarlane apologised, saying: “Now, I am conscious how important dividends are to individual shareholders and know how unhappy you have been about the decision not to pay a first-half dividend as well as the lower dividend for the year. Going forward, I’m hopeful we will return to a more consistent dividend each half”.
The brokers have Westpac paying a dividend of 105.8 cents in FY21 (with a big range from a low of 86 cents to a high of 130 cents) and 118.9 cents per share in FY22. The hardest bank to get a handle on at the moment (because it is in the “repair and fix” stage, plus there has been a big turnover in Senior Management), I favour 110 cents in FY21 and 120 cents in FY22, which puts Westpac on a yield of 5.2% for FY21 and 5.7% for FY22.
Capital returns aren’t on the agenda at Westpac.
Broker forecasts sourced from FN Arena. Prices and yields as at COB 29 January 2021. Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regard to your circumstances.
