Last week's Banking Sector Wrap coincided with the big market fall. This week's with bounce, and you wonder whether it's fleeting.
At yesterday's close the ASX200 is up 2.7 per cent for the week, but only after further carnage followed a big sell-off on Wall Street on Friday night. The financial sector has been the hardest hit on the New York Stock Exchange as the credit crisis has played out, but Monday and Tuesday provided a sharp rebound in the sector as the value hunters moved in. The same response was thus experienced in Australia.
On a simple average the five major banks finished up 3.5 per cent this week, outperforming the index.
Relative movements for the week ending 8 August 2007:
Westpac +2.43%
St George +2.56%
ANZ +3.92%
National +5.18%
CommBank +3.33%
ASX 200 +2.67%
It is possibly more appropriate, however, to look at the relevant movements over these past two extremely volatile weeks.
Westpac is down 1.1 per cent and has proven the least volatile; ANZ is down 0.9 per cent, Commonwealth down 2.4 per cent, National down 2.1 per cent but by far the most volatile; and St George is down 4.6 per cent and looking more like a minor than a major. Over the same period, the ASX 200 is down 3.6 per cent.
So take out the Dragon, and the four pillars have performed just as four pillars are meant to do in times of crisis - they have outperformed the index. This is despite most of this particular crisis being directed specifically at the financial sector.
Not so lucky, of course, were the diversified financials, led by poster boy Macquarie Bank.
Macquarie was in danger of becoming the "hundreds of thousandaires factory" around about Monday when the stock traded under $70, representing a 15 per cent fall for the week and a 28 per cent fall from its high. At a close of $78.49 yesterday, the stock had pulled back 12 per cent of the damage, spurred on by analyst reports suggesting things were getting just a bit out of hand.
While looking at the overall picture, securities analysts this week pressed the point that banks were largely outperforming in the correction, and as such remained safe.
And so they should, in many an analysts' eye, as the biggies have such little exposure to the US mortgage problem. At least one team, however, was able to actually tell it like it is, but more on that in a moment.
On a relative perspective, there was no movement in the big five's FNArena database rankings this week and no changes to price targets.
Credit Suisse did upgrade ANZ nevertheless from Neutral to Outperform, noting that relative share price movements had rendered ANZ comparatively inexpensive.
In micro-news Citigroup decided that the market was under-appreciating the developments at Westpac, given consumer banking was showing good signs and New Zealand looked like turning around a bit quicker than expected. The same analysts also thought the market had turned too bearish on NAB, but then NAB did slingshot back to be not quite as cheap by the end of the week. Merrill Lynch believes the 2008 financial year will be a more subdued for CBA, with only six per cent profit growth expected.
Yesterday brought a rate rise from the RBA which, on any normal day, might have been bearish for the banks.
But (a) the banks were in bottom-picking, bounce-back mode and investors couldn't care less about a rate hike and (b) it has been largely expected for some time now anyway. What is really more important for the banks going forward is whether or not there might be any further fallout from the global credit squeeze.
Most analysis has suggested no: the banks' lack of exposure to US sub-prime mortgages means any impact will be minimal or at least manageable.
Not so JP Morgan's Brian Johnson and his team, who appear to have arguably the most creditable view going around at present.
"The second order contagion impacts have likely not fully played out," says Johnson.
"Debt makes the world go round, with tolerable lending gearing levels and debt risk spreads, major drivers in the valuation of the residual 'equity' component of enterprise value. Banks are really the transmission mechanism between debt markets and borrower demands."
Johnson sees three reasons why Australian banks are now facing tough times ahead.
Firstly, wholesale funding costs for non-bank financials will inevitably rise. This is a "major issue". Mortgage loan portfolio growth in Australia has far outstripped deposit growth in recent years. Loan to deposit ratios have reached well over 100 per cent and the deficit has been funded by yield-hungry international capital markets. This is bad for Australian banks in general, says Johnson, but will most impact ANZ, Westpac, NAB and Adelaide Bank.
Secondly, Johnson puts little faith in the RBA's measures of "core" inflation.
Inflation, says Johnson, is everywhere. And the combination of rising bond rates and rising wholesale borrowing spreads do not bode well for Australian bank share market performance.
Thirdly, the banks have recently been enjoying a honeymoon period of below average loan losses. Not anymore.
This market correction has a different character to three of the most remembered episodes of the last 20 years. This particular correction is not driven by a fall in commodity prices (such as in 2006), or by a ridiculous tech-wreck (2000) or by way overextended PE ratios (1987), but by an adjustment away from over-accommodating credit. This time hiding in the banks might be akin to hiding under a tree in an electrical storm.
Thus there is some surprise at CommBank's $6.57 per share offer (minus dividend payout) for online financial service provider IWL.
It would appear IWL management has been busy talking to various suitors over the past year, including Macquarie Bank, but none decided to pursue with an official bid for the company.
Could this be related to the fact that it is a public secret that two of IWL's major wholesale customers, Westpac and NAB, are known to be unhappy with the service provided, with both believed to be actively searching for an alternative?
National is rumoured to be in talks with other financial service providers to transfer its wholesale equity business while Westpac is believed to be working on a stand-alone solution.
Deutsche Bank analysts recently stated that a potential loss of these two customers would reduce IWL's valuation by $1.50 per share. This is give or take about a fifth of the $373 million value placed on the company by CommBank's bid.
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