Westpac Banking Corp (ASX: WBC) shares could have a strong year in 2023 if things play out well for the ASX bank share.
The banking sector has gone through a lot of changes since the start of the COVID-19 period. But, the last 12 months have been particularly volatile with all of the economic challenges that Australia has gone through.
Westpac is not the biggest Australian bank in the sector, that title belongs to the Commonwealth Bank of Australia (ASX: CBA).
However, there are some factors that could drive the ASX bank share higher from here.
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Net interest margin improvements
The higher interest rates are the talk of financial markets at the moment and have been for some time.
It's not certain how high interest rates are going to go. However, the massive increase of the official interest rate over the last 12 months is expected to be a boost for Westpac earnings.
The ASX bank share has been passing on more of the interest rate rises to borrowers than savers. This boosts the lending profitability of the bank, which can then boost the bottom line of the bank.
Higher lending profits could be key for driving the Westpac share price higher because the valuation typically follows the direction of the earnings.
In FY23, Westpac's earnings per share (EPS) is expected to rise to $2.16 according to Commsec. That would put the current valuation at 11 times FY23's estimated earnings. This is a much cheaper price/earnings (P/E) ratio than CBA shares, which are currently valued at 18 times FY23's estimated earnings.
Return on equity to jump
Experts believe that Westpac's return on equity (ROE) is going to significantly improve in the short term. This basically means that the ASX bank share could generate more profit on how much shareholder money is invested inside the business.
My colleague James Mickleboro recently reported on comments from Morgans about the compelling situation for Westpac:
We view WBC as having the greatest potential for return on equity improvement amongst the major banks if its business transformation initiatives prove successful. The sources of this improvement include improved loan origination and processing capability, cost reductions (including from divestments and cost-out), rapid leverage to higher rates environment, and reduced regulatory credit risk intensity of non-home loan book. Yield including franking is attractive for income-oriented investors, while the ROE improvement should deliver share price growth.
Investors like it when a business makes more profit for them.
Stronger dividends
While fund managers may be largely focused on total returns, there are a number of investors that may be focused on the dividend side of the returns. A bigger dividend could attract more retirees to invest which could then be a catalyst to drive the Westpac share price higher.
Westpac's dividend is expected to rise at a solid rate over the next two years. In FY23, Commsec numbers suggest it could generate a dividend per share of $1.38, which would be a grossed-up dividend yield of 8.25%.
The FY24 annual dividend per share could be increased again to $1.47. This would be a grossed-up dividend yield of 8.8%.
