How annuity style businesses will drive Macquarie (ASX:MQG)'s future in a post COVID-19 economy

A closer look at Macquarie Group's business model, and how it has managed to emerge from COVID-19 relatively unscathed.

| More on:
dividend share

Image source: Getty Images

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

The financial breakdown in 2008 left an indelible mark on the banking system and left global investment banks with tighter regulatory requirements.

The shortcomings exposed during the GFC included inadequacies in corporate governance and risk management practices for investment banking activities. Multinational banking group Macquarie Group Ltd (ASX: MQG) survived the financial crisis, but it was forced to look at its business model in view of stricter regulations globally in the years after the GFC. 

A shift to annuity style business

With a market capitalisation of around $49 billion, Macquarie Group is Australia's fifth largest bank. It has a minuscule market share in the retail bank sector compared to the big four banks – Australia and New Zealand Banking GrpLtd (ASX: ANZ), Commonwealth Bank of Australia (ASX: CBA), National Australia Bank Ltd. (ASX: NAB), and Westpac Banking Corp (ASX: WBC).

The bulk of Macquarie's earnings traditionally came from its trading desks and advisory fees – in FY14, they made up 68% of the group's revenue – but from 2015, Macquarie began scaling up its annuity style businesses amid changing market conditions. Annuity style businesses refer to businesses that generate steady income with low risk. In Macquarie's case, these are its asset management, asset finance and retail banking services, which produce recurring revenue year in, year out.

These annuity style businesses contributed less than 30% to the group earnings 10 years ago, but made up 63% of its net profit in FY20. The transformation to a more predictable earnings stream is one of the main reasons why Macquarie's share price is much higher today (+300%) compared to October 2010.

As the group successfully navigated COVID-19 relatively unscathed, the Macquarie share price has returned to its pre-COVID levels of around $135. The banking group has proven its ability to grow its asset management business, which makes up 40% of its net profit according to Macquarie's annual general meeting result in 2020.

The rise of renewable energy and infrastructure

Macquarie has focused on its less volatile asset management business to free up capital, protect its balance sheet and to comply with stricter regulatory requirements. This has changed the group's business model from investment banking to a more balanced one.

In the asset management space, infrastructure and renewable energy are Macquarie's 2 main growth drivers. In the near term, the annuity style businesses are expected to be hit by the timing in asset realisation due to the pandemic. This will impose some impediments on the asset sale process.

However, as a leading asset manager, the banking group's asset management business has proven more defensive. Low interest rates support real asset values such as infrastructure, property, asset finance and commodities. The Reserve Bank of Australia (RBA) has kept the official interest rate at a record low of 0.25% since March. It continues to keep the discount rate low, resulting in an increase in the asset prices of Macquarie's holdings.

What's next

While investors may stay positive on the banking group's medium-term prospects, Macquarie will not emerge completely scar free from COVID-19.

However, I think the banking group has made the right decision to focus on annuity style businesses and invest in the infrastructure and renewable energy sectors. As different countries recover from the pandemic-induced shutdown, Macquarie is well positioned to benefit from a more stable income stream while maintaining a healthy balance sheet.

Motley Fool contributor Miles Wu has no position in any of the stocks mentioned. The Motley Fool Australia owns shares of and has recommended Macquarie Group 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.

More on Bank Shares

A woman looks questioning as she puts a coin into a piggy bank.
Broker Notes

Is the ANZ share price 'the best value of the major banks'?

ANZ shares are in the green ahead of the Reserve Bank's next interest rate decision today.

Read more »

A man looking at his laptop and thinking.
Bank Shares

'Attacked from all angles': Why this fundie is betting against the momentous rally in CBA shares

Up 27% in a year, this top fund manager believes the CBA share price rally is overdone. But why?

Read more »

A man holds his hand under his chin as he concentrates on his laptop screen and reads about the ANZ share price
Bank Shares

Can owners of NAB shares bank on a good outlook for FY25?

Can NAB keep outperforming the market? The outlook is clouded.

Read more »

A man in a suit smiles at the yellow piggy bank he holds in his hand.
Bank Shares

What is the outlook for CBA shares in FY25?

Can investors bank on another good year from CBA in FY25?

Read more »

A woman in a bright yellow jumper looks happily at her yellow piggy bank representing bank dividends and in particular the CBA dividend
Bank Shares

Here's how much I'd have if I'd bought 500 CBA shares 10 years ago

You won’t hear many long-term shareholders complaining about their CBA stock.

Read more »

Delighted adult man, working on a company slogan, on his laptop.
Bank Shares

Up 39% in a year, the NAB share price just hit a 9-year high!

NAB shares have flown higher in the past 12 months.

Read more »

Man holding a calculator with Australian dollar notes, symbolising dividends.
Bank Shares

If I buy 1,000 ANZ shares, how much passive income will I receive?

Let's see how much income this banking giant's shares could provide.

Read more »

Friends at an ATM looking sad.
Bank Shares

Big bank bargain: Are this week's tumbling ASX 200 bank shares a good buy?

Here what the experts have to say about it.

Read more »