For the third week in a row, the Big Four banks have on average significantly outperformed the ASX 200. This week (ending Thursday) the ASX 200 has added another 2.5 per cent to the big banks' 5.3 per cent. Yet again, the stand-out was Commonwealth Bank.
When the rally first began in March, bank analysts still mostly had their sceptical hats on. Slowly but surely fears began to abate a little, although analysts needed more than "green shoots" to overcome fears of increasing bad debts, further capital raisings and further dividend cuts. The two smaller, riskier banks in National Australia Bank and ANZ were certainly still seen as vulnerable, while the larger CBA and Westpac were at least safe havens.
As the rally progressed, analysts began to warn that bank share prices were becoming carried away with "green shoot" talk and to that end the ratio of buys to sells on the Big Four in the FNArena broker universe soon touched a trough of 5/10. But as more and more economic data landed on the table, including better than expected unemployment figures, the capacity of China to spur on Australian GDP, and a general return to confidence among businesses and consumers, bank analysts started changing their tune.
The peak in bad debts may not be quite as bad as first expected, they surmised, and in fact it appeared a recession had indeed been averted in Australia.
Pretty soon analysts changed their views altogether on ANZ and NAB, suggesting their discounts to peers based on added risk would now flip over to offer outperformance upside. Westpac and CBA would chug along. The expected capital raisings and dividend cuts did flow, but solid tier one capital ratios now made Australian banks look like rocks compared to offshore counterparts. Indeed, to look like "pillars" of comparative strength.
CBA's particular lingering premium to its peers was, however, overstated as far as analysts were concerned. At its lowest ratings level, CBA was granted a 0/5/5 buy/hold/sell ratio based on perceived overvaluation.
Well now even that view's under threat once more. Post the CBA result, analysts have lifted that ratio to 1/7/2 and lifted their average target price by five per cent to $41.05.
Analysts have either gradually or very suddenly bumped up bank target prices over the course of the rally as economic fear has continued to abate. In reducing the fear factor, the market indicates it is willing to pay higher price/earnings multiples for the banks by pushing up stock prices despite expected weak FY10 earnings. Analysts have responded accordingly, thus forcing them to chase stock prices with target prices. CBA has been the stand-out case in point.
The CBA result is important for the sector given it is first cab off the rank in FY09. The three other majors won't report FY09 results until September-November, although they will shortly provide quarterly updates. CBA is the first to report on what has been the toughest twelve months in banking since at least 1992, if not longer. And the result was a good one.
The weekly wrap 2: dazzled by 2011 projectionsCBA's bottom line result beat most analyst expectations and led to subsequent forecast earnings increases of up to 5 per cent in FY10, despite no specific guidance being offered.
Management remained conservatively dour in its anecdotal forecasting, but with financial collapse no longer seen as a threat for Australian banks, analysts are looking beyond a peak in bad debts some time in FY10 and on to an FY11 return to more normal return on equity numbers. The highlight of the result was the increase in net interest margin, which analysts agree bodes well for peers too.
CBA did increase its bad debt coverage but not as much as some expected would be necessary, and while a tier one capital ration of only 8.07 per cent was a bit light on, all noted an announced hybrid capital issue would take that up to 8.3 per cent (still behind ANZ at 9.5 per cent, NAB at 8.8 per cent and Westpac at 8.4 per cent). The dividend was cut by 25 per cent, but that had long been expected and is in line with similar earlier moves from peers.
CBA has long been considered the sturdiest "pillar" among the four. JP Morgan summed up the market's response to the bank's FY09 result as such:
"The CBA 'safety-play' appears to be evolving as investors look to capitalise on operational leverage which could see ROEs approaching the 'high-teen' levels as provisioning charges slow".
In other words, investors are looking ahead to the light at the end of the tunnel. They now believe the bad news is baked in, and although bad debts are yet to peak that peak is now more certain.
Macquarie was a little more provocative:
"Either way, the main message [from the CBA share price reaction] was that investors appear unfazed by early signs of rising mortgage arrears and middle-market stress; further increase in collective provision balances; warnings of slowing credit growth; and CEO outlook for 'significant risks on the downside'."
And with that little outburst, Macquarie upgraded CBA from underperform to neutral. RBS followed suit, meaning the once grizzliest of bears now no longer has a Sell rating on any of the Big Four banks. You can't fight the market for too long, and Macquarie has decided it is best now to look at valuation based on FY11 and just ignore FY10 altogether.
Is it just me, or is a level of complacency creeping in?
The fact that only one broker (Citi) has a buy on CBA while there are seven holds and two lingering sells is because all bar one broker still insists (even after big jumps in target prices) that CBA is overvalued relative to its peers. The current fear is that all this FY11 euphoria is driving prices too high even on much brighter earnings outlooks and PE multiples. But the net buy to sell ratio across all four banks is now 14/6.
When FNArena began writing this latest series of weekly wraps on bank stocks in April 2009, that ratio was 8/10. As noted, mid rally it dropped as low as 5/10. Now it is 14/6 and one can only say that the market has run well ahead of the bank analysts, who have been forced to play an embarrassing game of catch-up in many cases. That's not a great surprise - many had to play an embarrassing game of catch-up all the way down from August 2007 as well.
So is this the top? Not if momentum has anything to do with it. It looks increasingly like any pull-back in this market will only occur when everyone's finally given up the idea there will be a pull-back at all.
The running in the banking sector is clearly only with the four pillars to date, however. After a profit warning from leading regional bank Bendigo and Adelaide Bank last week, hybrid bank Suncorp Metway this week copped forecast earnings cuts and two downgrades to sell on the back of its pre-released result. Suncorp now has a 4/3/3 buy/hold/sell ratio and is quietly losing analyst faith as still no white knight is forthcoming.
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