MENU

Top broker warns big bank margins have peaked and are set to fall from here

One of the most important bank valuation metrics is flashing red just as investors are trying to come to terms with the growing headwinds buffeting the sector.

Investors could be thinking that the negative sentiment towards our big bank stocks is about to turn with the share prices of Commonwealth Bank of Australia (ASX: CBA), Westpac Banking Corp (ASX: WBC), National Australia Bank Ltd. (ASX: NAB) and Australia and New Zealand Banking Group (ASX: ANZ) jumping higher in lunch time trade.

But bank bulls should be concerned by Morgan Stanley’s call for the “end of the margin sweet spot” for our biggest mortgage lenders even as Westpac delivered a strong result this month that’s backed by an increase in net interest margin (NIM).

The broker noted that NIM for the big four banks had ticked up to 2.04% in the first half of this financial year compared to the 2.01% for the same period in FY17.

Felling The Squeeze: Bank margins are forecast to drop from here

This is as good as it gets. Morgan Stanley is predicting NIM to fall 5 basis points in the second half of FY18 before dropping a further 4 basis points in FY19.

There are four drivers for the downgrade in NIM. First is increasing competition for owner-occupier loans. Then there is the ongoing switch by borrowers to principal plus interest loans from interest only loans (the latter being more profitable to the banks).

The expected slowdown in deposit growth rates and an expected rise in wholesale funding costs are the other two factors behind the broker’s bearish view on bank margins.

On the last point on funding costs, Morgan Stanley’s NIM forecast may prove to be conservative too if the difference between the Bank Bill Swap Rate (BBSW) and Overnight Index Swap (OIS) stays at its peak for the rest of FY18.

Westpac warned that the spread between both borrowing benchmarks will knock-off 5 basis points from its margin while ANZ Banks and NAB are predicting a 2 to 3 basis point squeeze. Morgan Stanley has only priced in half of this headwind into its forecast.

BBSW is the short-term rate banks lend money to each other while the OIS reflects the interest rate set by the country’s central bank.

“We believe that oligopoly pricing power has peaked for now,” said Morgan Stanley. “In fact, scrutiny into conduct and competition, and the potential for adverse outcomes from the Royal Commission, Productivity Commission and ACCC, makes it difficult for major banks to re-price in the near term.”

The broker has no “buy” equivalent recommendation on any of the big four banks, neither does it think regional rivals like Bendigo and Adelaide Bank Ltd (ASX: BEN) and Bank of Queensland Limited (ASX: BOQ) can outperform the S&P/ASX 200 (Index:^AXJO) (ASX:XJO) index.

I can’t help but to agree. The only bank that is well placed to increase NIM is UK-based CYBG PLC/IDR UNRESTR (ASX: CYB), better known as Clydesdale Bank, which reported its interim results yesterday.

Investors are better off looking outside the banking sector for value.

On that note, the experts at the Motley Fool are offering up three of their best blue-chip stock picks for 2018.

You can find out for free what these stocks are by following the link below.

Top 3 ASX Blue Chips To Buy In 2018

For many, blue chip stocks mean stability, profitability and regular dividends, often fully franked..

But knowing which blue chips to buy, and when, can be fraught with danger.

The Motley Fool’s in-house analyst team has poured over thousands of hours worth of proprietary research to bring you the names of "The Motley Fool’s Top 3 Blue Chip Stocks for 2018."

Each one pays a fully franked dividend. Each one has not only grown its profits, but has also grown its dividend. One increased it by a whopping 33%, while another trades on a grossed up (fully franked) dividend yield of almost 7%.

The names of these Top 3 ASX Blue Chips are included in this specially prepared free report. But you will have to hurry. Depending on demand – and how quickly the share prices of these companies moves – we may be forced to remove this report.

Click here to claim your free report.

Motley Fool contributor Brendon Lau owns shares of Australia & New Zealand Banking Group Limited, CYBG Plc, National Australia Bank Limited, and Westpac Banking. The Motley Fool Australia owns shares of National Australia Bank Limited. 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 Scott Phillips.

Two New Stock Picks Every Month!

Not to alarm you, but you’re about to miss a very important event! Chief Investment Advisor Scott Phillips and his team at Motley Fool Share Advisor are about to reveal their latest official stock recommendation. The premium “buy alert” will be unveiled to members and you can be among the first to act on the tip.

Don’t let this opportunity pass you by – this is your chance to get in early!

Simply enter your email now to find out how you can get instant access.

By clicking this button, you agree to our Terms of Service and Privacy Policy. We will use your email address only to keep you informed about updates to our website and about other products and services we think might interest you. You can unsubscribe from Take Stock at anytime. Please refer to our Financial Services Guide (FSG) for more information.