Banks are finally finding some love from investors but fund managers remain resolutely negative on the sector and have raised the possibility that there could be more share price falls ahead.
The banks have rallied almost 5 per cent over the past week, with the move lifting the S&P/ASX 200 banks index off a 2013 low hit seven days ago, with some of the gains emerging as lenders started to report earnings.
“They are up a little bit after the results from ANZ and NAB. There was nothing new in the results,” Janus Henderson’s head of Australian equities, Lee Mickelburough said. “They are starting to look more interesting from a valuation perspective.”
But fund managers continue to warn of dimming prospects for revenue and earnings growth and the added potential for tighter regulation as a result of the royal commission.
Compared to the past couple of decades when the banks produced double-digit earnings growth and strong dividend growth, they are now producing single-digit earnings growth and little dividend growth, Alphinity Investment Management portfolio manager Andrew Martin noted.
Given this change, “history is not the best guide to the sector. It’s a different earnings and dividend environment,” he said.
The backdrop changed for banks as a regulatory crackdown took the heat out of the housing market, banks faced intense scrutiny over their business practices at the Hayne inquiry into the financial services sector, and as interest rates started to rise outside Australia.
Credit growth is slowing, said JCP Partners senior portfolio manager Michael Fitzsimmons, who doesn’t own any banks and has a negative view on the sector.
“I think it’s going to continue to slow as lending gets more restrictive,” he said. While credit growth has run historically at well over 5 per cent it could now be set to slow down to between 2 per cent and 4 per cent, he believes.
‘It’s hard to see what gets them off the floor’
Margins are also coming under pressure as deposit growth has slowed and lenders are grappling with increased wholesale funding, which has become more expensive as capital has flowed back to the US and interest rates have risen in the US, he notes.
Going forward, it’s hard to see what could prompt a positive shift in sentiment toward the sector, Mr Martin said. “It’s hard to see what gets them off the floor.”
The most positive development is that, because the top line is so weak, companies are focusing on costs and business transformation processes, he said. “I wouldn’t be surprised to see more costs taken out. It’s the one thing they can attack.
“We’re not in the camp of a credit crunch. We are more of the view that there will be a progressive, long-term, slowdown in credit that will take a long time to work through,” he said.
But the build-up of household debt in Australia is a red flag for JCP’s Mr Fitzsimmons, who is worried about bad debts increasing.
“The big issue is the credit cycle given the housing market. If we get an environment where rates have to go up due to global interest rates that would put a lot of pressure on the banks.
“[Adverse] credit cycles are rare events. They happen on average every 30 years and it’s been 28 years since the last one although the timeframe obviously varies.”
The fund manager says in his view there’s a 50 per cent chance of an adverse credit cycle over the next two to three years. “We have got all the ingredients for one to occur over the next two to three years. If that happens, it will be very challenging.”
Mr Mickelburough at Janus Henderson also highlighted the risk of rising bad debts for bank sector share prices.
“I think they are attractive in terms of dividend yield but we need to be wary that bad debts are extremely low. If bad debts start to rise, they could get a lot cheaper,” he said.