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As the RBA’s latest Financial Stability Review, noted: ‘In the decade since the onset of the financial crisis, significant changes in regulations and in financial institutions’ own policies and practices have made them more resilient. Banks now have much higher levels of capital, more liquid assets and more stable funding structures’. Stress tests of the banks indicate that they have sufficient capital to withstand double-digit unemployment rates and housing price falls exceeding 30 per cent”[i]
However, the new RBNZ capital proposals, large scale remediation programs, weaker capital generation from retail banking operations, large notable one-off expenses and the broader macro headwinds are proving challenging. NAB, for example has reduced its interim dividend from 99 cents per share to 83 cents per share and have declared a dividend reinvestment plan to raise an additional $1.8bn, to enable the bank to meet APRA’s ‘unquestionably strong’ capital benchmark of 10.5% and prepare for potential higher RBNZ capital requirements.
Total Risk-Weighted Assets (RWA) barely changed overall since the last reporting period. NAB showed an increase to Operational Risk RWA, offset by a reduction in IRRBB RWA, while CBA managed to decrease RWA’s overall by reducing credit and market risk exposure (traded and IRRBB) in the Institutional and Markets business. WBC’s RWA’s decreased with a significant $6bn reduction in IRRBB RWA, the main driver.
Total deposit funding increased only marginally, in line with slower lending growth. NAB and CBA grew their liability base mostly with increases in deposits, while ANZ and WBC relied more on wholesale funding.
Retail and corporate customer deposits comprise about 60% of total funding for the banks. Given the recent low inflation outcome, and a slight uptick in the unemployment numbers, the market expectations of an interest rate cut from the RBA has evolved over the last few weeks[ii].
If the RBA cuts interest rates this year, the four majors would be under political and community pressure to pass on the reduced interest rates to their lending customers. At the same time it will be difficult to offset that with reduced interest rates on deposits given the facts that rates on certain deposits are already at or near zero and pricing competition on term deposits. This could hamper the funding flow from retail deposits as well as result in further reduction in NIM.
On top of this, the banks estimate future funding requirements under APRA’s new Loss Absorbing Capacity (TLAC) rules will be in the order of $60-80bn collectively. As APRA is proposing Tier 2 as the primary instrument this will result in a significant increase in funding costs. The rules are proposed to apply from 2023.
Questions CFOs and business units should be asking include:
1. Do we understand the impact that capital and funding (e.g. TLAC) regulatory changes will have on our business and strategy?
2. Do we understand how sensitive profitability is to changes in funding costs, interest rates and competitive pressures on asset and deposit re-pricing?
3. Have we communicated this to business units?
For more on the Australian Major Bank Results click here.
[i] Reserve Bank of Australia, Financial Stability Review, April 2019 – page 3. Refer https://www.rba.gov.au/publications/fsr/2019/apr/pdf/financial-stability-review-2019-04.pdf
[ii] ASX – RBA rate indicator – May 2019 -https://www.asx.com.au/prices/targetratetracker.htm
Steven is the lead Partner in Deloitte’s Treasury Advisory practice. Steven has over 18 years’ experience in Australia and the UK auditing and advising financial institutions and large corporates on financial risk and finance matters, including financial instruments accounting, in particular IAS 39 and IFRS 9, financial instruments valuations and impairment. Steven leads a national team of 60 professionals with deep experience in financial risk matters including credit risk, market risk and liquidity risk. The team also consists of experts in banking regulations specific to market, credit and liquidity risk as well as regulatory capital. The team also consists of experts in quantitative finance and financial product valuations, modelling and pricing.