Major Australian banks could be facing a more difficult year in 2021 due to scaled-down operations following a raft of misconduct cases, according to an S&P report. This scaling down of operations has left the banks with a lower cushion against compliance costs while they’re also feeling the pinch from record-low interest rates and increasing competition from nonbanks.
The big four have sold or are in the process of offloading their wealth management and insurance businesses since the royal commission brought to light misconduct in 2019. With their revenue sources now primarily corporate and mortgage lending, the banks lack the benefits of risk diversification and fee growth they once had, S&P reported. And as the COVID-19 pandemic continues, the majors may face a long road to regaining their earnings momentum.
Right now, the majors are depending on future growth from their lending – especially their mortgage operations, said Martin North, founding principal and banking sector analyst at Digital Finance Analytics.
“Future profitability is also being crunched by lower interest rates, though offset by cheaper finance from the Reserve Bank of Australia,” North told S&P.
The aggregate cash profit of the big four fell 36.6% annually last fiscal year, from $27.39 billion to $17.4 billion, thanks to higher loan-loss provisions and customer remediation costs. Westpac also faced a steep fine due to allegations of money laundering.
Net interest margins for the banks fell between 1.63% to 2.07% as the RBA cut interest rates to a record low to mitigate the economic impact of the pandemic.
Read more: ASIC drops charges against Westpac
“Banks are expected to continue facing a number of large and complex remediation, regulatory changes and further competition from non-bank lenders,” Yin Yeoh, senior industry analyst at IBISWorld, told S&P. Yeoh said banks were expected to lower fixed mortgage rates to better compete with nonbanks.
“These trends are projected to constrain net interest margins for banks,” she said.
Yeoh also told S&P that the majors are expected to face increasing regulation in 2021 and beyond.
“Higher compliance costs and capital adequacy requirements are likely to be introduced over the next five years despite the major banks’ continued exits from their wealth management businesses,” she said.
One unknown for the majors is the amount of bad debt on their books, S&P said. The banks have increased their provisions to mitigate the impact of COVID-19, but their effectiveness will depend largely on how fast the Australian economy recovers.
“If the economy bounces back soon, then [the banks] may surprise on the upside by reducing provisions and allowing that to come back to the bottom line,” North told S&P. “The reverse is also true – if the economic recovery falters and bad debts rise, so will provisions, and profits will fall.”