Why the Big 4 banks are a huge bet on Australian property prices

Did you know that 50% of all Westpac Banking Corp's (ASX:WBC) property loans are interest-only?

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Okay, so it's not new news. Most of Australia's banking profits come from property. But did you know that ~40% of all property loans held by the 'Big 4' banks on their books are interest-only?

Here are the latest figures:

Commonwealth Bank of Australia (ASX: CBA) – 40%

Westpac Banking Corp (ASX: WBC) – 50%

Australia and New Zealand Banking Group (ASX: ANZ) – 37%

National Australia Bank Ltd. (ASX: NAB) – 38%

Westpac's figure is approximately twice the % of interest-only loans written in the USA prior to the sub-prime crash. Plus, each of the big banks have been running ahead of APRA's 30% investor loan mandate in recent times, which implies that they could have to cut back lending volumes soon.

The real concern in my opinion is the prevalence of these interest-only loans. They are effectively a major bet by the borrower on continued employment, rising house prices, and low interest rates. Some of the statistics such as the low loan to valuation ratios (LVRs) on Westpac's interest-only loans imply that additional loans are being taken out by borrowers using equity built up in earlier investment loans.

This increases the vulnerability of these loans in my opinion since it suggests higher concentration on a smaller group of borrowers, accentuating their risk in event of higher unemployment or a rate rise. With the incidence of fraud reportedly on the rise and Australia's economy looking increasingly mediocre, I would be a shade concerned if I was a bank shareholder.

The good news

The good news is that banks have lifted their servicing requirements, now requiring interest-only (IO) borrowers to also be capable of paying a principle + interest (P+I) loan as well as weather increases in interest rates. Australia also lacks the rampant mania and financial shenanigans of pre-GFC America – although I note that mortgage fraud here is reportedly on the rise.

I'm not predicting a housing crash. Changes are proactively being implemented to keep property lending sensible(-ish) and if so many people are talking about the risks of it, can we really be in a property 'bubble'? I leave that up to you, but I struggle to see where further growth in banking profits will come from.

The Motley Fool Australia's parent company Motley Fool Holdings Inc. owns shares of National Australia Bank Limited. 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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