Ian Pollari details the pressures on Australia's major banks revealed in the first half-year 2016 results.
The first half year 2016 results of the Australian major banks (the majors) suggest that the record earnings growth seen in recent years is slowing, reflecting the impact of a tougher economic environment and regulatory capital requirements.
Margin pressures continued, although the majors have managed to preserve margins through asset re-pricing and improved spreads on customer deposits. As the transitioning economic environment continues to take hold, the majors will heighten their focus on productivity, capital efficiency and digital enablement.
The majors reported a combined cash profit after tax of AUD14.8 billion for the first half of 2015-2016. The softer growth in the cash earnings result is due to increasing loan impairment expense, higher technology related charges, and one-off impairment and restructuring costs against flatter revenue and margin growth.
Challenging market conditions in the mining and resources sectors, coupled with large single name institutional exposures have seen the banks’ asset quality deteriorate. The aggregate charge for bad and doubtful debts increased AUD834 million to AUD2.5 billion in the first half, up 49 percent on the first half of 2015.
Industry returns are now bearing the brunt of increasing regulatory capital buffers over the past few years, with average Return on Equity (ROE) falling by 153 basis points to 13.8 percent (this compares to a decade ago when the average ROE was above 20 percent).
The Australian economy is going through a period of transition, with underlying consumer and business confidence remaining fragile. We expect a subdued economic environment to continue, with sustained low interest rates (lowered further this week by the Reserve Bank of Australia), weak demands for loans (and hence, slowing lending growth) and deteriorating credit quality.
These pressures, coupled with increased regulatory capital and liquidity requirements, will constrain their ability to continue to generate the high levels of return reported over the past five years. As a consequence, this will require the major banks to re-visit their business models, assessing the medium-to-long term viability of their various business lines and current geographic footprints (and exiting low growth, low return and capital intensive businesses and markets). In addition, the majors will need to heighten their focus on further improvements to their operational efficiency and productivity.