Australia's banks are amongst the market's favourite stocks to hold due to their size and perceived level of 'safety', together with their solid, fully franked dividends.
Indeed, all four major banks have surged in price since the depths of the Global Financial Crisis, driven by the low interest rate environment and the subsequent fall in impairment charges and the lift in home loans written.
Commonwealth Bank of Australia (ASX: CBA) has been the biggest beneficiary by far, rising 217% since January 2009, compared to the 108% and 113% returns from Westpac Banking Corp (ASX: WBC) and Australia and New Zealand Banking Group (ASX: ANZ) respectively, and the more modest 63% jump from National Australia Bank Ltd. (ASX: NAB). At the same time, the S&P/ASX 200 (Index: ^AXJO) (ASX: XJO) is up just 50%.
Source: Google Finance
Commonwealth Bank has maintained a higher return on equity than its peers in recent years whilst also offering the greatest exposure to Australia's booming property market. According to the Australian Prudential Regulation Authority's "Monthly Banking Statistics" report in May, the bank commanded a 26.8% share of the local mortgage market, compared to 24.8% for Westpac, 16.9% for NAB and 15.3% for ANZ.
As has been the case with each of its rivals, investors have also been attracted to the bank's lucrative fully franked dividend yield at a time of record low interest rates.
A terrible investment
The problem is, investors have become so attracted to the sector that they have pushed the share prices up to exorbitant levels, which reflects the market's expectations that the good times can continue well into the future.
Indeed, at its current price of $86.31, Commonwealth Bank is trading on a multiple of 15.5x forecast earnings for the financial year just ended and a trailing price/book ratio of 2.8x. Both of those are well above historical levels despite the strong headwinds that could seriously impact their ability to continue growing earnings.
At the same time, the bank is now trading on a forecast dividend yield of just 4.9%, fully franked. Although that is certainly not something to scoff at, it's nowhere near as appealing as the 6.8% yield offered by the bank as recently as 2012. Again, this yield could also be under threat as a result of tightening regulations, amongst other factors.
There is no doubting that Commonwealth Bank of Australia is one of the nation's best and strongest corporations but as the saying goes, the greatest company can make for the worst investment when purchased at the wrong price. Although the bank's shares remain well below the $96.69 price it recorded earlier this year, Commonwealth Bank remains an expensive investment prospect for the long-term investor.
