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<p><strong>Glenn Freeman</strong>: In this edition of "Ask the Expert," we're talking banks and I'm joined today by our equity analyst, Nathan Zaia.</p>
<p>Nathan, thanks for your time.</p>
<p><strong>Nathan Zaia</strong>: Hi, Glenn, thanks for having me.</p>
<p><strong>Freeman</strong>: Now, National Australia Bank was the first of the banks to deliver results last week. Were you surprised their decision to pull this forward by two weeks?</p>
<p><strong>Zaia</strong>: It wasn't a surprise, Glenn. I think, probably two components to that. Firstly, when that finalised, how much they thought they needed to provide in terms of loan impairment expenses in the half that they'd probably needed to come to the market and announce that. I thought – we saw Westpac do that this week, just ahead of their results next week as well. So, once they had that locked in, and then coupled with that, they probably thought, okay, now we can work out from where we stand today, how much capital we might need over the next kind of 12, 24 months. So, they wanted to come out and get the capital raising done alongside that. And I guess it makes sense that if you can ask shareholders for money, you want to update them with all the information that you have at hand, at present as well.</p>
<p><strong>Freeman</strong>: And next up later in the week, we had ANZ. What do you make of their decision to hold-off on announcing whether they're going to pay dividend or not?</p>
<p><strong>Zaia</strong>: Yeah, I mean, it is a surprise, especially given NAB just announced a much smaller dividend. But I think ultimately the banks probably have two decisions (indiscernible) or parts that they could take. One is what NAB did, which was pay a materially reduced dividend, but then raise capital to make sure that they've got enough to get them through this next, you know, could be a next few years of difficult times; or they can simply say, we're not paying a dividend for the next 12, 24 months, so that we don't need to raise capital and raise capital at a level that dilutes the value of the bank.</p>
<p>But in saying that, I mean, they've kind of got a balance that need to buoy your stakeholders, and I think that's what NAB was trying to do. No one wants to raise capital, say, your business is worth a billion dollars, you don't want to sell shares if someone is valuing it at $700 million or $500 million, obviously. The amounts we're talking about they're pretty small in terms of their valuation to the bank's fair value. That's why we currently assume that ANZ and Westpac do still pay a small dividend for the full year and just raise capital if need be. I think that's probably the path they'll take.</p>
<p>A thing that's difficult for ANZ or Westpac now is to say, we're going to defer dividends for the interim and then to (summate) for the full year or whatever they might choose to do if NAB and CBA continue to pay dividends as well, because that will mean then shareholders might reallocate capital to the other two banks. Then in 12 months if ANZ and Westpac do need money then the shareholders might not be as willing to give them the money, then they might have to do it at even lower price. So, it does put the banks in a bit of a tough position. You can understand why ANZ want to defer the decision, but it's a bit unfair to leave shareholders in limbo as well, I feel.</p>
<p><strong>Freeman</strong>: And Nathan, finally, it seems to me in February, we've seen Australian bank shares dropped around 40 per cent. But how confident are you in the long-term potential for Australia's banks?</p>
<p><strong>Zaia</strong>: Well, I think, the massive discounts to fair value, the current share prices. I think that more reflects the near-term outlook. Bad debts are going to rise materially. If we're saying dividends be slashed and ANZ talking about deferring, and that could mean it's halted altogether. But our numbers do paint a pretty grim outlook for the near-term as well. We're assuming cumulatively loan losses across the major banks, such as 35 billion, 36 billion. In saying that, they're still going to remain profitable. So, you know, by no means going to be on their knees in the short-term either.</p>
<p>So, then we look – okay, look past these few years where it's going to be really tough. What's the loan balance is going to look like? What are margins going to look like? Where do we expect loan losses as a percentage of loans to stabilize out again, and that's where we think the markets not putting enough credence or weighting towards, we expect margins to still be, you know, relatively similar to where they are now then increasing in the later years as rates increase expect modest loan growth, bad debts to stabilize at about 20 basis points. But I think if you look three to five years out, I think it's pretty fair to assume these loan balances will still be pretty big, the banks will be generating pretty nice margins on them. We think bad debt will return to historical averages, and that's going to mean these banks are highly profitable in generating really, really good returns on equity again, and that's what underpins our wide-moat rating. I mean, things could look a bit different, but then you would expect pricing to reflect that as well. So, we're still pretty confident in the long-term earnings will recover after taking a hit in the short-term.</p>

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