Why this fund manager is steering clear of the banks

Additional capital raisings are set to further dampen any growth in earnings at the big four banks.

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Despite the big four banks having dominant market positions in Australia, I've always been a little sceptical of the long-term returns that can be made by holding their shares.

Then last week, Wilson Asset Management's Matthew Haupt stated publicly that he sees no point in owning any of the banks until the next round of potential capital raisings are out of the way, probably by early 2017.

With capital raisings comes dividend and earnings risk, so given this, I thought I'd take a look at the share-issuance history of the big four banks over the last 10 years and see how well the equity base has been managed.

The results are quite disappointing in my opinion:

Bank Issued shares EOFY* 2006 Issued shares EOFY 2015 Growth in share count
Commonwealth Bank of Australia (ASX: CBA) 1,289.9m 1,631.7m 26.49%
Westpac Banking Corp (ASX: WBC) 1,862.9m 3,223.6m 73.04%
Australia and New Zealand Banking Group (ASX: ANZ) 1,836.6m 2,902.7m 58.04%
National Australia Bank Ltd. (ASX: NAB) 1,632.9m 2,562.9m 56.95%

* end of financial year

With more shares on issue, ordinary shareholders are diluted as there are now more shares on the market for a given level of earnings. This situation will only worsen once the Basel IV capital and liquidity rules have been finalised.

For some perspective, here are the banks' earnings and dividend growth over the 10-year period to the end-of-financial year 2015, and forecast earnings over the next two years:

Bank CBA WBC ANZ NAB
Earnings growth per annum (10 years) 6.8% 4.9% 4.0% (1.1%)
Dividend growth per annum (10 years) 7.2% 5.4% 4.2% 2.1%
Earnings growth per annum (2yr forecast) 3.4% 0.3% (5.4%) 5.1%
Dividend growth per annum (2yr forecast) 1.6% 1.8% (5.8%) 0.1%

Despite the popularity of banks in many individual, SMSF and institutional portfolios, I can't see a compelling reason to own banks today, especially given their history of abysmal returns for shareholders.

And the future doesn't look much better.

You could do as WAM intend to do and perhaps buy shares after the next round of capital raisings, perhaps with the view to holding for a bounce in the share price … and then selling.

But trading shares isn't a game I prefer to play and I would rather hold on to shares in businesses that have much higher prospects for growth over periods much greater than a few years.

If you're insistent on buying, or continuing to own, shares in any or all of the big four banks, at least understand the banks' earnings history and what their likely future returns will look like. There's no doubt, they're reasonably well-managed institutions, but they're ASX behemoths with little room to grow and continue to put their hand out for more money far too regularly for my liking.

Foolish takeaway

If you're the owner of bank shares, and with yet another round of potential capital raisings just around the corner, perhaps it's time for you to ponder whether you paying your investments, rather than your investments paying you is the best way to creating wealth.

Motley Fool contributor Edward Vesely has no position in any stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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