Shares of Westpac Banking Corp (ASX: WBC) are trading 1.2% lower today, on the back of Chinese concerns, and who knows what else.
Now, before I get into the three reasons to avoid Westpac shares, some investors would argue with me that Australia's banks have a licence to print money – and I agree…
They do. There is an implicit government guarantee which means that in the worst-case scenario, the big banks would probably be bailed out by the government.
However, just because it has a driver's licence and insurance certificate doesn't mean you should necessarily get in the car with Westpac shares.
Sure, if you're driving your car through the rear-view mirror then Westpac is clearly one of the best stocks on the ASX. However, looking ahead – which is what the stockmarket does – is the only way to invest successfully, in my opinion.
3 reasons to avoid Westpac shares today
- Regulation
This is a no-brainer, but an implicit government guarantee for our big four banks limits downside risks. However, it also comes with a number of onerous conditions such as the requirement to hold more capital; risk-weighting criteria; and increased media and regulatory scrutiny. Individually, these probably aren't such a bad thing, but together they will have the effect of hurting shareholder returns. Westpac's capital notes announced this past week are part of its requirement to increase its capital buffer, and although the effects of hybrids may not be apparent right now, there's no such thing as a free lunch in the stockmarket.
- Valuation
I've previously said I'd buy Westpac shares below $20 each. I stand by that valuation. I've previously valued them at around $25 a pop.
| Diluted Shares Outstanding: | 3131.00 | ||
| Implied Share Price: | $25.81 | ||
| Current Share Price: | $33.90 | ||
| Discount / (premium) to Implied Price: | (31.4%) | ||
Source: My calculations.
So at their current price of almost $34 per share, I think there's little reason to buy shares today.
- Growth
The growth outlook for Westpac is lower than in previous years. Westpac is Australia's largest home lender to investors. In 2014, 44% of all housing loans were to investors, up from 34% just 10 years earlier. Looking ahead, APRA has capped lending to investors at 10% and raised the risk-weighting for those loans as a result of the 'heat' currently in the local housing market.
Source: APRA Monthly Banking Statistics. Click to enlarge.
Foolish takeaway
Westpac isn't the only bank facing the above issues. However, no matter how good its track record is, any purchase of its stock should be carefully scrutinised by all prudent forward-looking investors.
