No Dividends for You!
Just when you thought it was safe to ignore market volatility, sit back and milk those regular bank dividends, comes a timely warning from my friend and AFR Contributing Editor, Chris Joye. Whether you agree or disagree doesn’t matter. But woe to you, bank shareholders, who don’t understand what his musings mean for your belief in the enduring power of Aussie bank shares to sustain your retirement income and lifestyle. His latest missive sounds like a wake-up call to catatonic bank dividend collectors.
AFR: Bank dividends could disappear in the next recession
“I don’t think Australian bank shareholders are cognisant of the risk that if equity capital ratios fall modestly, there are new automatic restrictions imposed by the regulator on the distribution of earnings that mean dividends may not be paid. In fact, it is likely that some banks will stop paying dividends altogether in the next recession as they rebuild capital eroded by loan losses. This column first publicly canvassed these hazards in August in the context of additional tier one capital (AT1) securities (or “hybrids”). The chairman of the Australian Prudential Regulation Authority, Wayne Byres, has since dedicated much of an important speech to the matter. APRA concurrently released a letter it had sent in response to a submission from the banking lobby that sought to convince APRA that the “automatic restriction on AT1 capital distributions is undesirable as it could result in a loss of confidence in [a bank] and adversely impact the demand for its capital instruments, particularly at a time when additional capital may be needed”. Thankfully APRA was staunch: the rules remain. At his best, the nation’s chief banking boss has traits of Guy Debelle in him: fearlessly frank and authentic even if it means breaking a few noses. (For those who don’t know, Debelle is the Reserve Bank of Australia’s notoriously blunt, guitar-playing deputy governor.) Byres also has a handy habit of burying his best content in long footnotes that reward the studious – like the time he stealthily disclosed that all the capital the major banks held against their home loans was wiped out in the 2014 stress tests while smaller banks’ capital was sufficient to cover their losses. (We were the first to publicly revealed that gem.) Byres’ latest speech confirmed our analysis that APRA will garnish 40 per cent of a major bank’s earnings from being used for dividends, AT1 hybrid coupons and/or staff bonuses if their common equity tier one (CET1) capital ratio falls below 8 per cent. If equity declines to less than 7.125 per cent (6.25 per cent), APRA will restrict 60 per cent (80 per cent) of total earnings. A formal stop on 100 per cent of all payments to equity and hybrids kicks in when the CET1 ratio hits 5.375 per cent of risk-weighted assets. So the de facto equity and hybrid default thresholds start at 8 per cent CET1 and are absolute at 5.375 per cent, which are both notably above the 5.125 per cent equity conversion trigger hybrid investors have traditionally focused on. Capital is only likely to be declining in a recession because banks are losing money as they did in 1991 when both ANZ and Westpac reported losses and slashed dividends. Yet in the next recession if a bank suffers negative earnings and CET1 falls below 8 per cent, prudent investors should assume they are going to get no dividends or AT1 distributions. (In APRA’s recessionary stress tests, CET1 ratios fell by more than 3 percentage points.)”
You can read the full article here.
Image with thanks to Jerry Seinfeld’s The Soup Nazi.
Roger Montgomery is the Founder and Chairman of Montgomery Investment Management. Roger has over three decades of experience in funds management and related activities, including equities analysis, equity and derivatives strategy, trading and stockbroking. Prior to establishing Montgomery, Roger held positions at Ord Minnett Jardine Fleming, BT (Australia) Limited and Merrill Lynch.
This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.
