Thursday, January 25, 2007

Australian Bank Stocks

Bloomberg, Kevin Foley, 24 January 2006

Shares of Australia's biggest banks, which reached records in the past year, may fall in 2007 as the highest interest rates in six years curb demand for loans.

Credit growth will slow to 12 percent, according to Australia & New Zealand Banking Group Ltd. That would be the smallest gain since 2002. The central bank has increased rates three times since May to cool inflation, and borrowing costs may rise twice more this year, said Atul Lele at White Funds Management.

The prospect of rising bad debts and increased competition may also tarnish the outlook for National Australia Bank Ltd., Commonwealth Bank of Australia, ANZ Bank and Westpac Banking Corp., the country's four largest banks. Loan losses are bound to rise, said Jack Chemello of BT Financial Group. Overseas companies also are taking lending business away from the banks.

``Rising interest rates will hurt them,'' said Sydney-based Lele, who helps manage the equivalent of $332 million and has reduced his holdings of bank shares. ``It will get much harder from here as credit growth slows.''

Australian lenders' shares are expensive compared with most overseas peers.

Melbourne-based National Australia, the nation's biggest bank, trades at 15.4 times 2006 earnings. Sydney-based Commonwealth, the second-largest, trades at 16.3 times, the highest among the four biggest banks. That compares with 11.3 times at Bank of America Corp., the second-largest U.S. lender after Citigroup Inc., and 12.7 times at HSBC Holdings Plc, the biggest European bank by market value.

`Question Mark'

``There's a question mark over whether the higher P-E valuations are justified given the risk from rising interest rates, a slowing economy and threats to credit growth,'' said Rohan Walsh, who manages $1.9 billion at Invesco Asset Management in Melbourne. He declined to say if he is buying or selling bank stocks.

Annual inflation was 3.3 percent in the three months ended Dec. 31, the third consecutive quarter it has breached the Reserve Bank of Australia's target of 2 percent to 3 percent.

Lele said he expects at least one more rate increase in the first half and sees potential for more in the second. He's not alone.

``I'd expect to see two more rate rises in 2007,'' said Chemello, who helps manage $30 billion at BT in Sydney. ``That will definitely take the cost of money to a level where households may start to reduce their demand for credit.'' He declined to say if he was buying or selling shares in banks.

Cheaper Than Japan

Shares of National Australia fell 8 cents to A$40.32 at the close of trade in Sydney, having reached a record A$41 on Jan. 3. They climbed 25 percent in 2006, the most in the eight-member S&P/ASX 200 Banks Index. Commonwealth stock slipped 1 cent to A$50.15 after earlier touching a record A$50.51. It gained 16 percent last year, in line with the banks index.

Melbourne-based ANZ Bank rose 13 cents to A$28.93, and are down from a record A$30.21 on Nov. 8. Sydney-based Westpac climbed 5 cents to A$25, compared with a record A$25.35 on May 2.

Most Australian banks are cheaper than the largest lenders in Japan, where Mizuho Financial Group Inc. trades at 16.4 times and Mitsubishi UFJ Financial Group Inc. at 16.3. The banks index also has the fifth-lowest P-E ratio among 24 industry groups in the benchmark S&P/ASX 200.

``Relative to the rest of the market, we think banks are starting to look quite attractive,'' said Bob Van Munster, who helps manage $7.5 billion at Tyndall Australia Ltd. in Sydney. The firm increased its bank holdings in the past three months. ``We don't think short-term interest rate hikes will have much effect on bank earnings.''

Loan Losses

John McFarlane, chief executive of ANZ Bank, said in October that industry loan growth will slow to 12 percent in 2007 from 14.4 percent a year earlier on lower demand from homebuyers and companies. That would be the weakest growth since 2002, central bank data show. ANZ Bank is the nation's third-largest lender.

Westpac, Australia's fourth-biggest bank, has forecast the nation's credit growth will slow to 11 percent this year.

Last month, McFarlane said ANZ Bank's earnings growth will slow because of ``significantly higher'' provisions for loan losses. Credit losses will rise in 2007 from ``historic lows,'' Chief Financial Officer Peter Marriott said in October.

Australia's economy grew 2.2 percent in the third quarter from a year earlier, its slowest pace in three years as business spending dropped and the nation's worst drought in a century cut farm output. That compares with 3 percent growth in the U.S. and 2.7 percent in both Japan and the U.K.

`The Big Issue'

``Credit quality is the big issue,'' said BT Financial's Chemello. ``Loan losses can't get much lower than they are now and it's highly probable that we'll see some kind of deterioration from current pristine levels.''

Increased competition for loans caused Adelaide Bank Ltd., a regional Australian lender, to cut its earnings growth forecast in November to as low as 6 percent this fiscal year from at least 10 percent.

Rivalry for credit-card customers and mortgage borrowers is reducing profit margins. At least 15 card lenders, including Citigroup and General Electric Co. of the U.S., are offering interest rates lower than 11 percent, compared with an average 18 percent rate three years ago, according to InfoChoice Ltd. of Sydney.

Australia's home-loan approvals fell for a fourth straight month in November as rising rates curbed borrowing.

``Competition has gone to the next level in terms of ferocity,'' said Chemello. ``Volume growth has slowed so there's less pie to go around and there's more competitors than ever.''