Martin Currie, part of Franklin Templeton, has adjusted its forward expectations for each bank’s relative valuation and re-evaluated its proprietary assessments of their ability to sustainably pay dividends at current levels.
At the end of June 2023, the banking sector accounted for 19 per cent of the S&P ASX 200 Index market cap, as well as 28 per cent of the broker consensus forecasts for franked dividends over the next 12 months from the same index, according to the firm.
Reece Birtles, Martin Currie chief investment officer, said: “Traditionally, the big four banks’ share prices and active returns have shown a strong co-movement with each other.”
Over the last decade, he highlighted, there has been a decoupling of Commonwealth Bank of Australia’s (CBA) total shareholder return from ANZ, Westpac, and National Australia Bank (NAB), primarily due to its higher trading multiple.
“There is far more modest evidence, however, of CBA delivering sustainably differentiated operating metrics compared to the other big four. To us, it is difficult to make the case that a valuation difference is truly supported for CBA,” Mr Birtles explained.
Martin Currie’s analysis indicated that as funding costs normalise to pre-“low rate” era levels, the embedding of larger mortgage discounts that all banks have offered customers will “come home to roost”.
“With deposit margins now a headwind, the only realistic method for banks to repair their net interest margins (NIMs) will be by limiting the pass-on benefits to customers when a rate-cutting cycle commences,” Mr Birtles noted.
The firm projected that this strategy would take a long time for banks to implement and said that lower NIMs will eventually result in a higher-than-expected cash earnings shortfall.
“Interest payments are on track to rise 119 per cent in FY 2023 and another 33 per cent in FY 2024. Rising interest payments and a potential decline in house prices pose risks to consumption expenditure more broadly and may crimp households’ demand for more debt,” Mr Birtles said.
He added that a potentially sharp correction in the supply of credit for housing could eventuate from these conditions.
“The fundamentals around lending policies, mortgage rates, term deposit rates, and living costs all point to a higher risk of substantial declines in credit availability translating to lower prices.”
Martin Currie indicated that bank earnings risks are skewed to the downside, finding CBA particularly overvalued.
Mr Birtles added: “Investors seeking an income stream that is resilient to macroeconomic volatility should be cautious of protecting against downside income risk. Saying this, our proprietary estimates of the resilience of dividends for the big four banks remain attractive, and largely in keeping with broker consensus forecasts for franked dividend yields for the next 12 months.
“We are comfortable with retaining bank exposures for their income-generating ability. However, our focus on downside income risk means that this is at a significant underweight relative to a yield-weighted view of the index.”