Shares of Commonwealth Bank of Australia (ASX: CBA) have retreated considerably in recent weeks and yesterday hit their lowest price in more than six months. They ended the session trading for $80.54 per unit.
While some investors might see this as a perfect opportunity to buy; here are five key reasons that suggest it might be a bad move right now.
1. Performance. Commonwealth Bank has generated exceptional returns over the last two-and-a-half decades, rising 1,080% in that time (or 1,707% when you include dividends). Indeed, its performance since the depths of the Global Financial Crisis has been remarkable as well with the shares having more than tripled in price since then.
The problem is, many investors seem to believe that these enormous returns can be sustained. That is, they're basing its future potential on its historical returns. As you will see below however, this appears increasingly unlikely to eventuate.
2. Interest rates. The 17% decline in Commonwealth Bank's shares over the last couple of months has largely been sparked by indications that interest rates will not fall any lower than their current 2% level. This highlights the fact that the low interest rate environment, and prospects of superior returns in the form of dividends, has been the primary factor supporting the bank's share price, rather than proper investing fundamentals (that is, investing for future growth in earnings).
3. Impairments. Another factor supporting the bank's shares has been impairment charges, or bad debts. Following the GFC, businesses have taken the opportunity to decrease their gearing levels which has resulted in bad debts falling to a record low level. The problem is, these bad debt charges are largely cyclical in nature, meaning that they will inevitably rise and when they do, they could act as a serious hindrance to the bank's ability to continue improving earnings.
4. Property. Commonwealth Bank is the most heavily exposed bank to Australia's mortgage market which has been beneficial as demand for homes has skyrocketed in recent years. But more and more economists are now suggesting a 'bubble' has been created and if that supposed 'bubble' suddenly bursts, Commonwealth Bank could be the hardest hit. Notably, this is also a key risk for Westpac Banking Corp (ASX: WBC) which also has a high level of exposure to the market.
5. Dividends. As I highlighted above, Commonwealth Bank's dividends have been one of the stock's key attractions, but there is a chance it may struggle to increase its distributions in the medium terms. Tougher capital restrictions are likely to be imposed on Australia's "Too Big to Fail" banks which could see funds diverted towards building up a solid safeguard against a potential economic downturn, which would otherwise have been made available for dividends.
Any sign that the bank's dividends are in jeopardy could well spark another heavy sell-off, potentially pushing the stock far below its current price tag.
