The banks are in the firing line again. A few months ago it was their record profits; today its talks of job cuts that dominate. In November I noted that an industry insider had informed me that tens of thousands of jobs would be cut from financial services in 2012. News today of job losses at one credit union suggests the process is underway.
But is something even bigger brewing? Something that’s getting little or no headline attention? We believe so. Collectively our banks made $24.26b in profits in 2011 (CBA $6.4b,NAB $5.5b, WBC $7b, ANZ $5.36b), but remember, banking is one of if not the most highly leveraged businesses on the Australian stock market. And being highly leveraged into any downturn means the economy can bite and bite hard.
While everyone’s focus is on cost cutting and net interest margins – so that the banks can maintain their profits – what are the numerous issues facing them:
• Elevated funding costs squeezing bank margins – Australian Financial Institutions source $310.5b in offshore borrowings.
• Declines in the share market impacting on wealth management profits.
• A higher frequency of natural disasters impacting insurance profits.
• The implementation of Basel III and higher capital requirements.
• Mortgage margins contracting given heavy competition for new loan business in a low growth environment.
• Low levels of system credit growth.
• Low levels of bad debt provisioning. Levels around pre-GFC 2008 levels and ratings agency Moody’s having serious misgivings about Australia’s housing market amid fears the property bubble will burst if Europe’s debt crisis is not contained.
• Analysts expecting house prices to drop further in 2012.
• Below 40% auction clearance rates across Australia.
• High historical levels of private and corporate debt levels.
• Falling property prices in China – the country’s Homelink property website reported that new home prices in Beijing fell a stunning 35 per cent in November from the month before.
• A broader economic slowdown in China and Japan as a result of Europe and US economies.
• Falling commodity prices for many of Australia’s key exports.
My view is that our highly leveraged banking system faces many pressures – from higher funding costs to increased unemployment (not just in the banking sector, some 100,000 jobs will be lost in retail alone) and the uptake of Basel III and that these pressures will see them needing to increase their capital. The canary in the coal mine is always of course bad debts.
Like my early prediction last year of a possible Qantas takeover, I may be wide of the mark, but I cannot rule out the possibility of the banks needing to raise capital in 2012.
If you work in the banking sector or are an avid follower of the Australian Banking system or know someone who is, I have a question to ask – despite the possible layoffs, what are you seeing? Clearly growth for banks is anemic and there are many headwinds to current consensus analysts’ earnings forecasts and their growth profiles. Are they achievable for our major banks in the coming years?
It is these forecasts that feed into valuation models which determine whether or not a margin of safety exists at current prices, so I’m throwing a call out to you. Do you agree with the current consensus view that jobs cuts are being made to preserve profits, or do you also see more to the story?