Australia Bank Earnings Benefit From Low Bad Debts, But Clouds Mar Outlook

By Robb M. Stewart Features Dow Jones Newswires

MELBOURNE, Australia--Australia's biggest banks have a tailwind from low levels of soured loans but revenue growth is sluggish and a cooling property market may make it tough to maintain earnings momentum.

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The banks logged modest aggregate profit growth over the last financial year, benefiting from their dominant position in mortgage lending through a period of low interest rates. Yet high household debt and weak wage growth, coupled with heightened regulatory hurdles, have clouded the outlook.

Westpac Banking Corp., the latest of the major banks to turn in annual numbers, eked out another rise in earnings over the year through September thanks to continued home-loan growth and a sharp drop in impairment charges. But it cautioned industrywide lending growth was likely to moderate and growth in the local economy looked set to slow through 2018.

"The entire sector is in a tough spot at the moment, with earnings growth hard to come by," said Omkar Joshi, a portfolio manager at Regal Funds Management in Sydney. "The only real lever to pull is costs."

Earnings across the country's four largest banks have proved resilient since the sector emerged from the global economic crisis largely unscathed, thanks in part to a strong domestic focus in a country that has notched economic growth for 26 years running.

In the last fiscal year, cash earnings--a measure favored by the industry as it strips out certain one-time items and is the basis for calculating dividends--rose slightly more than 6% to a collective 31.5 billion Australian dollars (US$24.1 billion), accounting firm Ernst & Young calculated. At the same time, bad-debt expenses dropped 23% to A$3.97 billion.

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Yet the average net interest margin, a profit measure based on the difference between the rate at which a bank borrows and lends, contracted slightly over the year. That came as higher funding costs, tough competition and the introduction in the last quarter of a federal tax on liabilities, more than offset increases to home-loan rates aimed at meeting regulatory orders to cool riskier lending.

"Against a backdrop of subdued economic growth, slowing demand for credit, continued margin pressure and high regulatory and capital costs, the majors have been adept at managing a number of headwinds," Ian Pollari, head of Australian banking at KPMG, said.

Still, stagnant wage growth and high levels of underemployment are keeping a lid on economic growth and in turn demand for credit, with growth expected to slow to mid-single digits, he said. Banks as a result will focus on controlling costs and simplifying their businesses to help preserve earnings, Mr. Pollari added.

Westpac reported a 7.3% rise in annual net profit to A$7.99 billion, and 3.1% rise in cash earnings to A$8.06 billion, helped by growth in mortgage lending that countered a decline in trading revenue that dragged on non-interest income. The result was boosted by a 24% decrease in impairment charges to A$853 million as the bank's exposure to stressed loans declined.

Stressed loans remain low across Australia, although they are elevated in some smaller cities and regions with a greater exposure to mining activity after commodity prices slumped two years ago. Still-stretched household balance sheets and the boom in home prices in recent years has been a worry for the central bank. Regulators have over the past few years introduced measures to strengthen lending standards, including rules introduced earlier this year to limit growth in investor mortgage lending and discourage home loans with high loan-to-valuation ratios.

Brian Hartzer, chief executive of Westpac, said while the bank anticipated home-price growth would cool through 2018 but was unlikely to fall sharply, and there was a cushion with more than 70% of customers ahead on their repayments. He added business customers were holding back on investing because of uncertainty about government policy on issues from taxes, to energy and transportation infrastructure.

At the start of the month, Australia & New Zealand Banking Group Ltd. CEO Shayne Elliott warned the environment for revenue growth is expected to remain constrained in 2018 by intense competition and the effect of regulation, including the Australian bank tax.

National Australia Bank Ltd., which has in the last several years exited its banking business in the U.S. and the U.K., said last week it aimed to cut A$1 billion in costs over the next three years and would lose a net 4,000 jobs over that time to help fend against new competitors and advancing technology.

Write to Robb M. Stewart at robb.stewart@wsj.com

(END) Dow Jones Newswires

November 05, 2017 22:41 ET (03:41 GMT)