Our ‘Big 4’ banks have rebounded some 10% in the past six days – not a bad effort from the $350 billion oligopoly.
The election of a new US President has reignited hopes (or should that be fears) of higher interest rates, and Commonwealth Bank of Australia (ASX: CBA) and friends have risen on the news.
Yet I’m not sure higher interest rates are the Holy Grail of bank investors. Higher interest rates certainly could lead to wider Net Interest Margins (NIM) at all major lenders, including Commbank, National Australia Bank Ltd. (ASX: NAB), Australia and New Zealand Banking Group (ASX: ANZ), and Westpac Banking Corp (ASX: WBC). We have seen in recent years that NIMs, a measure of bank profitability, have been shrinking as interest rates fall and competition intensifies.
Every silver lining has a cloud
Lower interest rates have been a key driver of local house prices however, and the big lenders have all benefited from rapid growth in loan books. A housing boom in Sydney and Melbourne has led to several comments from the Reserve Bank of Australia, while APRA, the Australian lending authority, has instructed banks to slow their rate of lending growth and to strengthen their balance sheets. Investors need to be aware that a rampaging house market might come to a halt if rates rise, with a corresponding potential impact on demand for loans.
I would be glad to see higher rates, for sure. Yet higher interest rates also correlate with higher levels of bad loans which, as we’ve noted previously, are at record lows among the big 4 banks. Combine that with potential lower levels of lending activity (because rates aren’t as attractive) and possible stagnation in housing price growth, and the final impact is likely mixed at best, just as it is now that rates are lower.
In fact, banking competition could even intensify if there’s a significant lift in rates, because the pool of customers could shrink. The ultimate impact on our banks is unlikely to be severe, given the degree to which they dominate Australian lending. The big 4 are also better capitalised than they have been in recent times, and thus more resilient to a downturn in activity.
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Motley Fool contributor Sean O'Neill 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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