ANZ loses its sparkle as profit margins squeezed

A disappointing performance by ANZ's international arm has taken the gloss off solid earnings growth across the group, as very low interest rates squeeze profits in institutional lending.

A disappointing performance by ANZ's international arm has taken the gloss off solid earnings growth across the group, as very low interest rates squeeze profits in institutional lending.

Cash profit rose 11 per cent to $4.8 billion over the nine months to June, ANZ said on Friday, but it added that its net interest margin had fallen in the past quarter, and this squeeze was set to continue.

The bank was also experiencing slower revenue growth than a year earlier, though the effects of this slowdown had been largely offset by a 2 per cent fall in provisions for bad debts and a 0.5 per cent fall in expenses.

Earnings growth caused by fewer bad debts is seen as lower quality by market analysts, who view profits generated by revenue growth more favourably. In a trend that analysts said marred the result, the bank's net interest margin also fell by 2 basis points, and it said it was likely to narrow further during the final September quarter.

Net interest margins are a gauge of how much banks are paying for funds compared with what they are charging for loans, and have a critical influence on profits.

The bank said the main reason margins were under pressure was low interest rates, but also conceded that "fierce" competition in institutional lending had dragged down its pricing of loans.

When interest rates fall to historic lows as they have recently, banks cut their lending rates but cannot cut rates on transaction accounts that pay no or minimal interest.

"We are in a lower interest rate environment than we were previously. Obviously, that is an issue," chief executive Mike Smith said.

The part of ANZ responsible for the margin squeeze was its international and institutional division, which is leading the bank's ambitious push into Asian markets.

The division, without a long-term leader since the departure of Alex Thursby in April, suffered a 20 basis point fall in margins.

ANZ shares fell by 3 per cent to $29.45.

The result comes amid signs banks' domestic businesses are performing well, with the Commonwealth Bank this week unveiling a record $7.8 billion profit, driven by its retail division. NAB will report quarterly earnings next week.

In a boost to earnings, ANZ said costs would be close to flat over the year, after a productivity drive that included job cuts.

Despite its tight approach to costs, Deutsche Bank analyst James Freeman said there were enough negative aspects of the result for the stock to continue trading at a discount to its rivals. He said the margin decline in the international and institutional result was a "disappointment".

"While volume growth and productivity initiatives in this area are helping to offset this, the question will be whether it will be enough," Mr Freeman said.

While Commonwealth Bank chief executive Ian Narev this week said the bank might not be able to sustain its growth rate if the economy did not improve, Mr Smith painted a relatively upbeat picture of the economic environment in Australia.

He said the election and lower dollar would help lift confidence and fears of a slowdown in China were "overdone".

"We need to remember that the world's second-largest economy is still growing at about 7 to 7.5 per cent per annum. And this is like adding an economy about the size of Switzerland to it each year," he said.