With the ASX 200 sitting at 11-year highs, is the Commonwealth Bank of Australia (ASX: CBA) share price a buy?
CBA recently received a price upgrade from Bell Potter to $86 (from $80). This follows expectations that the Reserve Bank of Australia would lower interest rates even further in 2019 and reduce CBA's cost of equity.
CBA economists now expect the RBA to cut the cash rate by a further 25 basis points (bp) at both its August and November 2019 board meetings, taking the cash rate to 0.75% by the end of the year. Market pricing for RBA rate cuts currently sit at a 50% chance of a cut in July, 70% by August, and 97% by December.
Why so many rate cuts?
The minutes of the June RBA Board meeting show the decision to cut the rate by 25bp was driven by a rise in unemployment to 5.2% in April and annual GDP growth easing to 1.8% in Q1. The board also believed the Australian economy was operating at a level where there was spare capacity in employment levels. The RBA believes that 4.5% unemployment would represent "full employment" and current unemployment levels of 5.2% is well below the target level.
Overall, according to the RBA's June board meeting minutes, the objective of the most recent rate cut and expected cuts is to "stimulate activity and thereby improve the resilience of the Australian economy to any future adverse shocks."
Are the banks a buy?
The 'Big Four' Australian banks have always been resilient in the face of extreme market stress. When economic conditions weaken, banks focus on operational efficiency, maintaining capital and balance sheet strength.
Banks are in a delicate position where they have largely cut interest rate returns for savings and term deposits. However, they have yet to pass on a reduction in borrowing costs for loans. And you know what? From a business perspective, why should they? Banks have continuously faced diminishing net interest margins on the back of rising borrowing costs and increased competition.
The property market is also an important factor to consider. While property markets are still in a depreciating cycle, current market conditions are tipping towards a hopeful "bottom".
In June, Sydney and Melbourne property markets posted their strongest auction performance in more than a year. Such a return of confidence has been credited to multiple factors such as the Liberal victory that preserves capital gains concessions, negative gearing, and the recent RBA interest rate cut.
Foolish takeaway
The general market is looking relatively extended at the moment. However, monetary policy and developments in geopolitical relationships could push the market even higher. The United States futures market is currently assigning a 100% probability of a rate cut next month. The market could respond very favourably to such a rate cut.
While I wouldn't be looking to buy the 'Big Four' banks such as CBA right away, my general sentiment is that the market is going higher.
