Westpac Banking Corp (ASX: WBC) currently offers the highest trailing dividend yield between its S&P/ASX 200 Index (ASX: XJO) big 4 ASX bank peers. So, could Westpac be a buy given this big dividend yield and recent share price slump?
Is Westpac's dividend yield too good to be true?
Westpac shares currently trade on a market-leading trailing dividend yield of 11.11% compared to the 7.15% from Commonwealth Bank of Australia (ASX: CBA), 9.9% from Australia and New Zealand Banking Group Ltd (ASX: ANZ) and 10.29% from National Australia Bank Ltd (ASX: NAB). The immediate question that needs to be addressed is if these dividend figures are sustainable – in my view, the short answer is no.
There are many reasons as to why Westpac's dividend could come under threat. The sudden expected contraction of the Australian economy, combined with record-low interest rates, will reduce the bank's net interest margins and profitability.
S&P Global Ratings had previously revised Australia's credit rating outlook to 'negative'. According to a recent ASX release, S&P Global expects that "despite a significant fall in interest and fee income, Westpac's earnings in the next two years will remain sufficient to absorb the increase in credit losses".
Moving forward, it forecasts a "strong economic rebound toward the end of calendar 2020 following a significant downturn," where loan growth is expected to remain "subdued in the next two years".
Westpac is also undertaking a detailed analysis to finalise its impairment provisions for 1H20 which includes $1,030 million related to AUSTRAC matters, $260 million for a range of customer remediation activities, $70 million in other asset write-downs, $70 million relating to changes to the provision of group life insurance, and a $140 million impact from bushfires and storms. Westpac plans to update the market with more exact numbers once this impairment charge has been finalised and prior to the announcement of its 1H20 results on 4 May 2020.
The increasing challenges add to the narrative that Westpac's future earnings will not be enough to support its expected dividend yield. Much like Westpac's FY19 full-year report, where the bank experienced a 15% fall in cash earnings and a 15% cut to its final fully-franked dividend. The bank cited that its dividend was reduced to bring the payout ratio to a more sustainable range. I believe a repeat is likely to happen as earnings come under pressure.
Foolish takeaway
Australian banks are well capitalised to survive challenging business conditions, but the same can't be said about its dividends. While a fully-franked 11.11% dividend yield may seem appealing at face value, there are a plethora of reasons as to why it may be too good to be true.
