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Which bank should you pick or flick?

Posted By Paul Rickard On In Shares | No Comments

Over the last week or so, three of the four major banks have reported their full-year profit results. While on the whole they were somewhat underwhelming, there were some nuances in execution quality that are worth highlighting.

And while the sheer size of each bank means that many of us will hold shares in all the banks, the obvious question if you are thinking about lightening your holdings, or upping the investment, is which bank do I sell or buy?

I will try to answer this question by comparing the banks on some key outcomes, and then see what the major brokers have to say: who’s their top pick?

 Capital

  1. ANZ: CET 1 (Common Equity Tier One) ratio is the highest of the banks at 11.5% (pro-forma basis). However, regulatory action by the Reserve Bank New Zealand (RBNZ) to require segregated capital for the Bank’s kiwi business could impact the capital base by NZ$6bn to NZ$8bn. The market expects that ANZ may have to do a capital raising in due course.
  2. NAB: Surprised the market by not doing a capital issue. Instead, elected to underwrite its dividend re-investment plan to $1.6bn. Its proforma CET 1 ratio will be 10.75%. The bank says that “capital tailwinds” will provide support in FY20, and while the RBNZ framework could require an increase in capital of NZ$4-5bn, it says that “management actions” are expected to reduce the impact. Seemed remarkably relaxed about its capital position, but the market is not as convinced.
  3. Westpac: Is raising $2.5bn through a capital issue. $2bn already completed at $25.32 per share, a further $500m is to come through a share purchase plan. Post completion, its CET1 ratio will rise to 11.25%. Estimates RBNZ framework to require extra NZ$1.2 to NZ$1.8bn in capital. Now the best capitalized bank.

Dividend

  1. ANZ: Surprised by cutting franking percentage to 70%. Said that the composition of statutory revenue was now 55% Australia, 29% NZ and 15% international. Full year dividend 160c.
  2. NAB: Final dividend at 83c per share, full year 166c (down 16.2% on FY18 full year dividend).
  3. Westpac: As expected, reset dividend by cutting final to 80c per share. While full year FY19 dividend is 174c, expectation for FY20 is that the starting point is 160c per share. 

Operating performance in FY19

  1. ANZ: Cash profit from continuing operations and excluding large/notable items such as customer remediation costs fell by 1.4% to $6.87bn. The second half profit at $3.31bn was down 4.7% on the first half.
  2. NAB: Cash profit excluding large notable items rose by 0.8% to $6.55bn. The second half was marginally down on the first half by 0.4% at $3.27bn.
  3. Westpac: Cash profit excluding large notable items fell by 4.4% to $7.98bn. The second half was down 2.9% on the first half at $3.93bn. 

Volumes and margins

  1. ANZ: Home lending portfolio fell by $7bn in the year to $265bn ($4bn first half, $3bn second half). ANZ says improved momentum going into FY20. Underlying NIM (net interest margin) fell by 5bp (0.05%) in second half.
  2. NAB: Housing lending fell away in the second half partly due to a repricing, with the book dropping from $307bn to $304bn. NAB says that the September quarter saw improved momentum. Business lending volumes increased by 5.2% over the year. The group net interest margin remained relatively stable during the second half, although they noted a “3bp headwind” going into FY20.
  3. Westpac: Home lending grew by $4.5bn over the year to $449bn, but last quarter saw a net outflow of $2.8bn. Other loans were flat. NIM was well managed, down 1bp in the second half.

Expense growth

  1. ANZ: Operating expenses excluding large notable items flat for the year (adjusted for foreign exchange movements, down 1.6%). Expenses rose by 2% in the second half, mainly due to increased regulatory costs in New Zealand.
  2. NAB: Operating expenses excluding large notable items up 0.4% for the year. The second half was up 1.1% on the first half.
  3. Westpac: Operating expenses excluding large notable items flat for the year (adjusted for foreign exchange movements down 0.6%). In the second half, up 0.8%.

Strategy

  1. ANZ: Fixing and simplifying. Investing to prepare the Australian business for growth. Resolving challenges in New Zealand.
  2. NAB: Fixing and simplifying. Focus on business banking and priority segments. New CEO Ross McEwan starts in March. Sale or divestment of wealth business (MLC) still on the table for 2020.
  3. Westpac: Fixing and simplifying. Quit financial planning and reset wealth business (BT) by integrating into Consumer and Business Banking. Introduced new state based, multi-brand management structure. Investing in digital assets.

Outlook for FY20

  1. ANZ: Expecting “challenging trading conditions to continue for the foreseeable future”, with record low interest rates and intense competition impacting profitability. Last rate cut will shave around 3bp from NIM. While committed to absolute cost reduction, said that first half underlying expenses would be $150m to $200m (3% to 4%) higher than the second half of FY19.
  2. NAB: Cautious. Net interest margin headwind from last rate cut of 3bp. Expense growth in FY20 expected to be “broadly flat”.
  3. Westpac: Subdued. Expects flat lending balances, with decline in mortgage balances in first half offset by growth in second half. Pressure on NIM (3bp impact from last rate cut) and non-interest income. Operating expenses to be about 1% higher, due to increase in amortisation and higher compliance spend, offset by productivity savings.

What do the brokers say?

The major brokers are neutral on the banking sector. Within the sector, there is no clear  standout. The following table lists broker recommendations and target prices for the 3 major banks (source: FN Arena). It highlights that the differences between the banks are very much at the margin. While strong conclusions are hard to draw, the following statements can be made:

* Price as at COB 8/11/19

Bottom line

I was disappointed at ANZ’s lack of progress in cutting costs, poor performance in mortgages, and underwhelming outlook. It is most impacted by the possible changes by the RBNZ. Although cheap, it will have the NZ capital changes, plus forecasts of another cut in dividend, hanging over the top of it.

NAB was the surprise packet in the results. It is now trading at a premium to Westpac and there will be further murmurs about whether it needs to bite the bullet on capital. Its focus on business banking means that it is somewhat more geared to a recovery in the Australian economy than the other banks.

Westpac’s outlook was gloomy, but its performance on balance sheet growth, margin and expenses wasn’t as bad. Getting the capital raise out of the way has removed this overhang. Historically, it has traded at a premium to NAB, not a discount.

By a nose, I agree with the major broker consensus. Westpac is my “top pick”.

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.