Westpac Banking Corp (ASX: WBC) shares and the rest of the big four banks have delivered very strong returns for investors over the past 12 months.
Over the period, Westpac shares are up over 30%, ANZ Group Holdings Ltd (ASX: ANZ) shares are up over 20%, Commonwealth Bank of Australia (ASX: CBA) shares are up 30%, and National Australia Bank Ltd (ASX: NAB) shares are up almost 40%.
While this is great news for shareholders, one leading broker believes now could be the time to take profit and move on.
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What is the broker saying about Westpac and other bank shares?
Bell Potter has been busy running the rule over the big four banks. It believes they are expensive now and investors should be underweight with their exposure to the sector before a correction comes. It explains:
The ASX 200 banks index has outperformed the broader index over the past 12 months, generating total returns of 40% (vs the market of 16%). In our view, the banks are too expensive at current levels. Our recommendation is an underweight to the banks as we expect the sector is due a correction without a significant change to the earnings outlook.
Why are they expensive?
The broker highlights that the big four banks look overvalued when compared to global peers. This is even after factoring in the resilient Australian economy and strong historical performances. It adds:
Australian banks appear overvalued compared to global peers. Despite their strong historical performance and the resilience of the Australian economy and housing market, their current Return on Equity (ROE) figures do not justify the elevated Price/Book (P/B) ratios. The current ROE, often in the low-to-mid-teens, seems insufficient to support P/B ratios that are considerably higher than those of global peers with superior ROEs.
One key example is US banking giant JP Morgan (NYSE: JPM), which is performing stronger than Commonwealth Bank but trades at a sharp discount. Bell Potter explains:
For instance, consider JP Morgan (JPM), a high-quality US bank. JPM currently generates an ROE of ~15% and trades on a P/B of 1.7x. In contrast, CBA generates an ROE of ~13% but trades on a P/B of 2.7x. Given the current fundamentals, we struggle to reconcile this 60% premium for CBA over JPM (and other global banks).
Historically expensive
Westpac and the big four bank shares are not just expensive compared to global peers, but also compared to their own historical multiples according to the broker.
It highlights that their valuations imply strong earnings growth is coming. However, the market is actually forecasting earnings to be going backwards in FY 2025. Bell Potter's analysts explain:
In our view, bank sector valuations are expensive. Most valuation metrics point to elevated prices. The sector forward Price/Earnings (P/E), Price/Book (P/B) and P/E Rel Market all point to the banks being overvalued. P/E, P/B and PE Rel are all above their long-term averages.
For cyclicals, an elevated P/E ratio can sometimes be attributed to temporarily depressed forward "E" (earnings) due to the earnings cycle. However, we would argue that earnings are not weak or cyclically low. The elevated P/B ratio indicates that current market prices may exceed the underlying value of these banks. Above-average multiples could be justified if earnings growth is expected to be above average, but consensus has earnings going backwards in FY25 and low single growth in FY26.
Overall, it seems that now could be a good time to take some profit off the table.
