Australia | Apr 28 2020
This story features NATIONAL AUSTRALIA BANK LIMITED, and other companies. For more info SHARE ANALYSIS: NAB
The company is included in ASX20, ASX50, ASX100, ASX200, ASX300 and ALL-ORDS
NAB has set the agenda, but most analysts suggest pain will be temporary and the bank sector remains strong.
-Major banks will likely defer dividends and cut payout by up to -30%
-APRA’s urgings on capital management may be overly cautious
-Modelling suggests economy will stabilise within three years
-Real challenge will come after the medical emergency has eased
-Banks are strong and stocks are considered a Buy
By Nicki Bourlioufas
Banks tipped to cut dividends
COVID-19 remains a transitory economic shock, which is not expected to develop into a long-term threat to the big banks though they are expected to delay their dividends and cut first-half payouts by about a quarter, compared to the same period last year, analysts predict.
Citi predicts the big banks will cut dividends by about -25% in response to the coronavirus crisis while Credit Suisse is a marginally more negative, putting the likely reduction at -25 to -30%.
But cuts could be greater. Already this week, National Australia Bank ((NAB)) has reported its results to the ASX early. The bank reported a -51% drop in first half profit to $1.3bn and said it would seek capital of $3.5bn from shareholders. It also slashed its interim dividend by -64% to 30 cents per share.
Nevertheless, analysts are confident the sector as a whole is well-positioned to weather the coronavirus storm.
Citi says COVID-19 is a “transitory economic shock, which is not expected to develop into an existential threat that triggers a -40% plus property market collapse.” While it will have a big impact on earnings, dividends and credit quality over the shorter term, bank shares have been oversold.
Citi maintains a Buy rating for the whole banking sector, giving its order of preference as ANZ Bank ((ANZ)), Westpac ((WBC)), NAB, Commonwealth Bank ((CBA)), Bendigo & Adelaide Bank ((BEN)) and Bank of Queensland ((BOQ)).
JP Morgan says NAB and ANZ are the most likely to benefit from a temporary rise in markets and treasury income. It ranks NAB as its top pick, followed by Westpac, and rates both Overweight.
UBS is also positive. “Despite the uncertainty, valuations appear reasonable. We remain Market-Weight the banks.” Credit Suisse rates ANZ, NAB and Westpac as Outperform, and rates CBA Neutral. ANZ, Westpac and NAB all closed their first half on March 30. NAB reported yesterday, ANZ reports on Thursday and Westpac next Monday. CBA closed the half on December 31, so the full impact of COVID-19 won’t show up in its accounts until the full-year result is released, although the bank will provide an update on May 13.
APRA cautions on capital
Dividend deferral and cuts will be made partly at the direction of the Australian Prudential Regulatory Authority (APRA). Chairman Wayne Byres wrote to the banks and insurance companies on April 7 urging a cautious approach to capital management, including buybacks and executive bonuses.
“During this period, APRA expects that ADIs and insurers will seriously consider deferring decisions on the appropriate level of dividends until the outlook is clearer,” Mr Byres wrote. “However, where a board is confident that they are able to approve a dividend before this, on the basis of robust stress-testing results that have been discussed with APRA, this should nevertheless be at a materially reduced level.”
Citi modelling suggests medium-term recovery
Citi ran a modelling exercise using four plausible scenarios that it believes the banks could adopt, with APRA’s oversight. The scenarios ranged from an optimistic “Rapid V-shaped Recovery” to a worst-case “Elongated L-shaped Recovery”.
Citi says the banks are likely to base their modelling on something similar to Citi’s own “U-shaped recovery” scenario. Under this, GDP growth would fall by -5% in 2020 and then recover to 3% by 2022, giving a three-year average of 1.2%.
“This would result in cuts to dividends of about -25% over the next 12 months,” Citi says.
The banks risk the wrath of investors if they unjustifiably defer dividends. Dividends and franking income are essential to retail investors, who will need to be convinced that drastic action is necessary. Citi says, “We expect the banks to resist APRA, putting dividends onto a sustainable path.”
But UBS is more tough-minded, suggesting APRA’s approach is prudent. UBS says, “With the most challenging outlook in at least 75 years, is now the time to be paying out capital to shareholders?” Returning capital through dividends, then buying it back through Dividend Reinvestment Plans, is economically irrational and highly dilutive, UBS analysts argue. “Bank dividends should never be regarded as an annuity, irrespective of the wishes of some retail investors.” UBS expects banks to seriously consider deferring dividends until the outlook is clearer.
Real challenge lies in the medium term
Citi argues APRA is forgetting the banks ran an industry-wide stress test in 2017 which showed they are well-prepared for the worst case.
The real challenge will come during the recovery, when lockdowns are eased, fiscal stimulus measures are wound back, loan repayment holidays are more restricted, and employment is slow to pick up. The challenges then will be the knock-on effects of soft demand, mortgage stress, the rising cost of debt, and falling property prices.
UBS says the banks are in a vastly different economic and interest-rate environment in the wake of the crisis. “Profit will be impacted by provisions for credit, fines, customer remediation and write-downs.”
JP Morgan says the Australian banks may follow the US investment banks with increased sales and trading income due to market volatility in March, but this gain is likely to be short-lived. Thus investors should “look through” the noise and focus on the signal, which is likely to be a focus on building capital.
Credit Suisse says the single most watched number in the reporting season is likely to be bad debts. “We expect the bulk of the bad debt number to be driven by increases in collective provisions/overlays, given little in the way of stress has been observed to date.”
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CHARTS
For more info SHARE ANALYSIS: ANZ - ANZ GROUP HOLDINGS LIMITED
For more info SHARE ANALYSIS: BEN - BENDIGO & ADELAIDE BANK LIMITED
For more info SHARE ANALYSIS: BOQ - BANK OF QUEENSLAND LIMITED
For more info SHARE ANALYSIS: CBA - COMMONWEALTH BANK OF AUSTRALIA
For more info SHARE ANALYSIS: NAB - NATIONAL AUSTRALIA BANK LIMITED
For more info SHARE ANALYSIS: WBC - WESTPAC BANKING CORPORATION