Banks and financials outlook 2013
Nicholas Grove  |  20/12/2012Text size  Decrease  Increase  |  

Nicholas Grove: The Morningstar equities research team recently released the Huntleys' Forecast 2013 sector reviews. Here to give investors an idea of what to expect from the banking and financials sector in the coming year, I am joined again by Morningstar sector head David Ellis.

David, thanks very much for your time today.

David Ellis: Thanks Nick, my pleasure.

Grove: First of all David, what are going to be the key macro issues, both domestic and international, that investors need to keep an eye on when it comes to this sector in 2013?

Ellis: Well, the key domestic macro issue is economic growth and the strength or lack of strength in Australian GDP for 2013 and even into 2014, as the massive mining investment boom is slowing down, and the concern is that it's slowing down faster. And when it reaches its peak, the pressure on the non-resource parts of the economy is expected to increase, and on the high Australian dollar and the flow-on effects of that combined with the federal government tightening their fiscal position. That means the GDP growth in 2013 will probably be slower than expected, and that will have a clear impact on the financial services sector, particularly the banks.

As far as internationally, the key things we're looking for internationally of course is, first of all, the US fiscal cliff negotiations are rapidly drawing to - hopefully - rapidly drawing to a close. If that goes badly, that will probably have a quite a significant negative impact globally on global equity markets, and conversely.

So, if there is some negotiation agreed between the two political parties in the US, well then that'll probably have a short-term positive impact on equity markets. Other global macro issues, of course, are the economic growth outcomes in China, and the flow-on effect for demand and price of commodities - particularly iron ore and coal which obviously impacts the Australian economy.

Grove: David, what do you expect from the big four banks in terms of earnings and dividends in the year ahead? And do you still expect a return of surplus bank capital to shareholders in the form of special dividends, buybacks or payout ratios in 2013?

Ellis: Yeah. Our position hasn't changed since the last time we spoke and that is for moderate credit growth, which will flow through to moderate revenue growth. There is an increasing focus and emphasis on improving the cost base of the banks. So, in relative terms, we'll see costs being reduced. And margins of course - net interest margins - are a major swing factor.

And over the last month or so, we've seen wholesale funding costs actually come down. Now, that has a longer, flow-on impact on net interest margins that's definitely not immediate by any stretch of the imagination. So, margins we expect will stay relatively stable. The big swing factor for bank earnings are bad debts, and that gets back to my first point or to your first question about he economy. If we see a sharp decline in the economy, an increase in unemployment, then we will see an increase in bad debts, particularly for business and commercial loan bad debts.

If we see a sharp increase in bad debts, well, then we'll see bank profits being under pressure. That's not our central case, that's not our main thesis. We expect the economy to muddle through and we wouldn't be surprised if bad debts do increase, but not materially.

And so, getting back to thesis or forward-looking thesis of capital returns or higher dividends, at this stage we're comfortable that the banks will continue to increase their capital base. They will have surplus capital, particularly Westpac, and probably CBA. And assuming the economy doesn't deteriorate sharply, then we expect to see capital returns to shareholders in the next 12 to 18 months and it may be in the form of special dividends or it could be share buybacks.

Grove: Stepping away from the banks for a minute, what sort of performance can we expect from the big insurers in 2013?

Ellis: Well, that's a tougher question. The insurers obviously are impacted by a lot of factors, not the least being the incidence of natural disasters and catastrophes. And in 2011 and 2012, we have seen a sharp increase in catastrophes around the world, which have impacted QBE severely, and to a lesser extent IAG and Suncorp.

Insurance premiums are increasing, which is a positive for profitability. There is better underwriting discipline. Reinsurance costs are going up, but we do expect to see a solid improvement in earnings for the three insurers, particularly QBE.

Grove: Finally David, how do you expect the wealth managers and the diversified financials to perform in 2013?

Ellis: Well, the wealth managers and the diversified financials are influenced heavily by equity market activity and strength, so they are leveraged to the markets. So, if we see a continued recovery in equity market values, well it'll do two things - one it'll increase the market value of funds under management, which will increase fee income for the wealth managers. But more importantly, we want to see a return of confidence from investors to start putting more money into the equity market, either directly or through managed funds. A lot of that money is currently seeking cash deposits with the banks.

So, if we see a recovery in confidence in the market, we will see a recovery in net flows into the listed wealth managers. We see a similar sort of outlook too for the property sector. Whilst a lot of the property stocks have run quite hard over the last six months, the last 12 months, we're pretty confident in underlying asset values, property values, and we expect further investor demand for those higher-yielding, quality, income-producing property trusts.

Grove: David, thanks very much for your time today.

Ellis: It's a pleasure, Nick.

Video Archive...

5 big market themes
30/06/2015  Investors should watch the velocity of rate increases, keep Greece in perspective, and mind diversification in a world with very few good values.
Where are the new global opportunities?
29/06/2015  Global fund managers discuss emerging opportunities beyond the local market.
3 key risks for retirees
24/06/2015  Accurium SMSF technical services manager Melanie Dunn discusses three factors trustees should be aware of as they move from the accumulation to the retirement phase.
What the Greek crisis means for investors
22/06/2015  With most of the debt now being held by institutions, contagion is no longer a concern, says Morningstar's Bob Johnson.
5 questions for a top bond manager
17/06/2015  PIMCO’s Rob Mead discusses interest rates, the global economy and where the best opportunities are over the next 12 months.
4 keys to fixed-income investing
16/06/2015  Morningstar's John Likos scrutinises the risks that hybrids, bonds and other forms of credit carry and suggest ways in which investors can choose quality assets.
Grading the fund investor experience
09/06/2015  Morningstar’s Anthony Serhan takes a look at the experiences of fund investors around the world.
Understanding valuation risk
09/06/2015  Morningstar Investment Management's Chris Galloway discusses the important role annuities can play within a portfolio, as well as the key risk faced by all investors.
Big banks: As good as it gets?
--  Perpetual's Paul Skamvougeras maintains his view on being underweight the banks while favouring stocks with sound balance sheets and good management.
Uncovering quality undervalued stocks
03/06/2015  Companies with sustainable earnings can still be found despite an expensive market, according to Ausbil’s Paul Xiradis.
Seeking income and growth
29/05/2015  Cash generating stocks with a focus on creating shareholder value can be found across the global universe.
Where are the best global opportunities?
29/05/2015  Platinum’s Andrew Clifford discusses where he is finding well-priced opportunities in the global markets.
Good values are harder to find
28/05/2015  A run-up in European stocks has left the region moderately overvalued, while Asia market valuations are even more stretched; according to Morningstar's fair value metrics.
A stock with a unique growth opportunity
25/05/2015  The largest law firm in Australia provides a good investment opportunity for long-term investors.
Growth prospects in emerging markets
20/05/2015  Emerging market guru Mark Mobius talks about bull markets and viable growth opportunities at the recent Morningstar Investment Conference in the UK.
Be selective, exercise caution
18/05/2015  While value may not seem to be in abundance there are still opportunities to be found in the local market, as Morningstar's Peter Warnes explains.
A better deal for retail investors
14/05/2015  Enduring dividend imputation is not abolished and fairer capital raisings are among the items on the policy agenda for the Australian Shareholders’ Association.
The growth outlook for Wesfarmers
11/05/2015  Wesfarmers' Richard Goyder talks about managing a diverse business and the growing number of "serious players" in the supermarket sector.
Big bank earnings wrap
08/05/2015  Morningstar's David Ellis gives investors the lowdown on the half-year results from Westpac, ANZ and NAB, as well as his view on CBA's trading update.
Where Buffett sees value
06/05/2015  Morningstar's Matt Coffina discusses Buffett's view of stock valuations, cost-cutting, and more while attending the recent Berkshire Hathaway annual general meeting.