Is the Commonwealth Bank of Australia (ASX: CBA) share price worth buying for the grossed-up dividend yield of 7.7%?
Since the election investors seem to have said yes, with the share price rising by 9.5% in that time.
Arguably Commonwealth Bank has been the best bank to own over the past 30 years. Westpac Banking Corp (ASX: WBC) came close to going bust in the early 1990s, whilst Australia and New Zealand Banking Group (ASX: ANZ) and National Australia Bank Ltd (ASX: NAB) did not do well from overseas banking, plus they have both cut their dividends in recent years.
The move by the RBA to cut interest rates by 0.25% would have been welcomed by Commonwealth Bank. CBA did pass on the full rate cut, unlike Westpac and ANZ, so it won't boost the net interest margin (NIM), but it does make the loan more affordable for Commonwealth Bank's borrowers, which may help reduce CBA's bad debts and arrears.
Credit growth has been very subdued in recent times. In the FY19 third quarter trading update, CBA said that home lending growth was an annualised 2.5%. Part of the problem has been a slowdown of lending to first home buyers because they couldn't get loans. The suggestion by APRA to change the interest rate buffer requirement to 2.5% above the current rate will somewhat help.
Commonwealth Bank will be hoping that the 9% drop in underlying cash net profit after tax (NPAT) in the third quarter, which excludes significant items like royal commission remediation, is short-lived. The bank's profit could come under pressure if the loan impairment expense continues to mount.
Foolish takeaway
CBA is trading at under 16x FY20's estimated earnings. It is valued more expensively than the other major banks, but it may be worth that premium.
However, I'm not going to buy CBA shares just because it has a large dividend. I'm worried about its shorter-term profit.
