Christine St Anne: Ian, can I just ask you about the banks? There's been a lot of discussion that the cost of funding could increase in Europe, which clouds the outlook for 2012. What's your view?
Ian Huntley: For the Australia banks, they are dependent on offshore wholesale funding, let's say roughly 25% of their book. Now there's some - there's obviously some issues there with continuing with money coming out of Europe, but on the other side of it, you've got to realize that the big four Australian banks are among the most highly rated in the world, and you've got a period where money is flying around the world and it's becoming increasingly frightened that lending money to European banks.
So of course, there's going to be some money looking to come to Australian banks because they are extremely highly rated and there seems to be increasing the U.S. money market funds have been for quite a while lending into Europe, now some of them are lending into the Australian banks. So, I am certainly not wishing to jump out of any window. I own Australian bank shares, and I can assure you, I sleep very well at night, and bank the dividends with the greatest of glee. If some silly idiot offshore or the panicked merchant there wants to sell them at a lower price, I'll buy some more.
St Anne: Daniel, are you sleeping well at night with your bank portfolio?
Daniel Needham: I have a slightly different view on the Australian banks. I mean, I think that the funding situation - I agree with what Ian was saying. I think that they've significantly improved their funding situation relative to say 2008, where a much larger portion was from the foreign capital markets, and you know, the level of credit growth is much more sustainable for the banks at the moment. I don't think we're seeing significant expansions of balance sheets. My concern-
Huntley: It's lousy.
Needham: My concern is that there was a lot of credit growth, and this is kind of where you'll probably see the differences between Ian and myself. I see residential property prices in Australia as being relatively high, and the banks themselves have a significant exposure to that asset. Whilst the asset quality is good now, a deterioration in that asset quality I think could create some pressure for the banks, and so I think, there's a reason why the banks are trading on high dividend yields and lower valuations. I think, you're being - because there is a risk on the credit quality of the bank balance sheets and so I think you should be getting a higher reward for that risk.
So, my concern is that there is significant credit growth in Australia, property prices went up significantly on the back of that, and there was additional credit growth on the back of the First Home Buyers Grant, which gave it another spurt up, and if we do have an environment where growth in Australia slows and unemployment moves up, I think that the banks could be under pressure in that situation with credit quality deteriorating. But I don't think it's a 2012 problem, I think, this is a longer term challenge for the banks.
Huntley: By the way, I do not agree with my friend there too. I think, he's got this crystal ball, he looks at it for China - the other one looks at an Australian residential market, and I think they're out there somewhere. Look, you've got to remember that Ian Macfarlane, when he was Head of the Reserve Bank in Australia in 2003, put in a hell of a credit squeeze on our home lending, because there was a bubble, there was a developing bubble, and unlike our American friends, Mr. Macfarlane - and he even held a seminar about it, and it was discussed and reported in the press - he decided to hit the developing bubble before it became a catastrophe.
Mr. Greenspan believed that, you did it after the catastrophe. It was easier to mop up than stop, and America is paying for it, right? But that was the broad Australian market that he stopped and slowed down, and if you look at the credit aggregates as to lending to Australian housing since then have come down ever since. They are actually very low now, about 5%, very low. It should be higher.
Now since 2003 with the - for want of a better word, the financial bubble, the upper market in the city, in the CBDs and the financial districts of Australia, they ran very strongly, and that actually was a global situation. Now, that's coming off now, and certainly you can get your 25% falls and 30% falls in areas like Mosman, mainly Toorak in Melbourne right? That's still - it's a limited effect. The broad Australian market, it's fine, and that's where people like Jeremy Grantham and my friend here completely miss it. The one other huge major thing these guys are totally missing is that part of the problem in the U.S. and the U.S. people, a lot of U.S. commentators say. 'Oh, because we stuffed it up, everyone else must too. We are the cleverest, we are the Americans.' By the way, I love America.
Now, a long time ago, possibly in the '30s, American credit standards were changed from full recourse on home lending to nonrecourse. That meant that when you borrowed money for a home, if you could no longer keep up your payments, all you did was to loose your home, okay. It's a very major difference.
In Australia, if you default you'll lose everything including your wife's jewelry, the whole works, the car, the lot. You are tied up and your credit rating is horrific ever after. There is tremendous pressure on you. Our credit lending standards are never exploded like the U.S. That is why our banking system remained in good shape all through the GFC and continues to. Our housing defaults are extraordinarily low. They are pinpricks, right since the GFC, and they're going to continue that way, because what happened in America, they had a massive weakening in credit standards, and then half of their lending market crashed, it collapsed. That was the size of their shadow banking market, which was a serious mess with absolutely no concept of a holding of security on behalf of the lenders. We didn't have it, because we have less than 1% shadow banking type lending in Australia. That's why we are in good shape. You got to understand the credit market and what went wrong to relate to the future of housing crisis in Australia.
Then compared to the United States, broadly we are a middle-class country. We donï¿½t have the same extraordinary lows and heights in incomes. Thatï¿½s enough on that one. One could go into more detail, but I have spent a lot of time on that and I have lived through many, many housing crashes in Australia, 1974. All the things that have molded the minds of Mr. Macfarlane and also the current Governor of the Reserve Bank and also the banking culture and the leaders of our banking system.
Needham: I agree with the comments about the United States, but I think within Australia, I agree that the supplies - and there wasn't an excess amount of development in Australia. I think that the types of credit vehicles in the expansion of the shadow banking system effectively didn't happen in Australia, certainly not to the same levels in United States. I think that the supply-demand picture for residential property in Australia is much, much more positive than the United States. But I think that - I guess my view is that the affordability and the fact that property is an asset that is handed from an inter generational perspective, and right now there is a lot of property that's owned by the baby boomers and a lot of that's owned outright, and a lot of the mortgages in Australia actually interest only investment properties because there is a significant tax incentive to own investment property. I think that creates risk, investment property creates that risk. At the same time-
Huntley: Yeah, if it was overblown, yeah.
Needham: -and there's also large amounts of unfunded future pension liabilities for retirees.
Huntley: What? Compared to the United States, you've got to the joking. Weï¿½ve got this extraordinary superannuation system. We are so far ahead of just about every other country in the world. It's a joke.
Needham: Yeah, but the consumption level for people to even maintain two-thirds of their pre-retirement income, they're going to have to downsize their properties.
Huntley: Oh, sure.
Needham: So, they're going to consume their property, and I think that they will be able to maintain. I agree, like the pension system is much better. So, I think we could see some more supply of housing come on to market.
Huntley: Well, that's been going on for years.
Needham: Yeah, and I think it's going to increase, because the baby boomers are going to start to consume their property more and more. I think that the difference between - say what, it's a very different property situation in the U.S., but I still think that supply is going to cause a re-pricing of property, as younger people who need to access credit; they need to borrow relative to their income. I think that we could see some downward - either in real terms, I think we could see property prices, sort of trend across for quite a long period of time.
The potential that we get hit as much as Ian, sort of thinks, we could have a big issue in China, should that happen property could correct significantly. But I think, it's going to be - I don't think we are going to see the same type of real share price increases - sorry, property price increases that we have seen previously.
Huntley: I'm not looking for any particular residential property prices, but we go to - broadly, for sometime even though people are a lot smarter than me about it, do see over next few years high single-digit, low double-digit growth. They certainly know the markets better than I do, but I have been following property for longer time. But you got to understand that the Australian markets have lots of different sectors in it. The market probably up to about $1.5 million in Sydney is probably showing slight increases in prices, while the up market $2 million and above, probably coming off.
It's not one simple situation. Various areas do better than others, and other areas, they are worse. So, it depends a lot where you are looking. Queensland, for instance, this year has been the worst hit of all. But next year as the various flood relief programs start pumping through and all those major gas developments start being - employing people and the rest of it. It's a massive driver of the Queensland economy. I think, you will see some - over the next three years, I would argue that you would see some decent increases in your basic residential prices in Queensland. It's pretty simple - it's come off such a low base, and there is going to be fair revival there. But you've go to look at it - you got to get into the detail on this one, because you don't have the massive shock across the boards that you've had in the United States.
St. Anne: Gentlemen, thank you both for your time.
Needham: Thank you very much.
Huntley: Thank you.