Days of high returns on equity have past, says Kelly

THE days of banks posting returns on equity of 20 per cent or more are long gone, the Westpac chief executive, Gail Kelly, says.

By InvestSMART · 29 Nov 2012

By InvestSMART ·
29 Nov 2012

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THE days of banks posting returns on equity of 20 per cent or more are long gone, the Westpac chief executive, Gail Kelly, says.

While it is still desirable for banks to boost their profits, aiming for returns on shareholder funds of 20 per cent or higher has not been sensible since the global financial crisis, she said. "Those days of the 23 to 22 per cent ... I think those days are gone."

Mrs Kelly said Westpac's target to maintain a return on equity rate of 15 per cent was still appropriate, as long as good risk management strategies were implemented.

"I think there are opportunities for growth and it is important that in a sensible managed way we go after those opportunities for growth," she told a business forum in Sydney.

The Bendigo and Adelaide Bank managing director, Mike Hirst, told the same forum: "The reality is if we're asking for 20 per cent returns from our banks, when the risk rate is 6 or 7 per cent, that is a fairly large risk and I'm not sure there should be that risk."

The Australian Prudential Regulation Authority chairman, John Laker, said he had no problem with banks making returns in the mid-teens but he agreed that anything more than 20 per cent was no longer appropriate. "I think the message is getting through," he said.

The comments came as a Coalition-dominated Senate inquiry called for a new code of conduct to give small business borrowers more protection in their dealings with banks. The inquiry was launched partly in response to complaints from business owners who were put into receivership following Commonwealth Bank's takeover of Bankwest at the height of the global financial crisis.

While the inquiry did not pass judgment on whether the banks had acted inappropriately, it said there had been many "disturbingly similar" cases involving Commonwealth and Bankwest, and arrangements for business borrowers needed improvement.

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Frequently Asked Questions about this Article…

What did Westpac CEO Gail Kelly say about banks achieving 20%+ return on equity (ROE)?

Gail Kelly said the days of banks posting returns on equity of 20% or more are over. She told a Sydney business forum that aiming for ROE of 20%+ has not been sensible since the global financial crisis, and that Westpac’s target to maintain about a 15% ROE is still appropriate provided good risk management is in place.

What is a reasonable target return on equity for Australian banks now?

According to the article, a mid-teens ROE is viewed as reasonable. Westpac’s CEO supports a roughly 15% ROE target, and the Australian Prudential Regulation Authority (APRA) chairman said he has no problem with returns in the mid-teens while anything above 20% is no longer appropriate.

Why are very high bank returns on equity (above 20%) considered inappropriate now?

The article explains that after the global financial crisis, sky-high ROE targets imply taking large amounts of risk. Bendigo and Adelaide Bank’s managing director Mike Hirst noted that seeking 20% returns when the risk-free or risk rate is about 6–7% represents a fairly large risk, and APRA’s chairman agreed returns above 20% are no longer appropriate.

What did Bendigo and Adelaide Bank managing director Mike Hirst say about bank profitability and risk?

Mike Hirst told the same forum that asking for 20% returns from banks when the risk rate is 6–7% is a fairly large risk, and he questioned whether that level of risk should be taken. His comments echo the view that more modest ROE targets better reflect appropriate risk management.

How did APRA chairman John Laker view bank profitability and ROE levels?

John Laker said he had no problem with banks making returns in the mid-teens but agreed that anything more than 20% was no longer appropriate. He added that the message about moderating ROE expectations is getting through.

Were these comments connected to a government inquiry into bank conduct with small business borrowers?

Yes. The comments came as a Coalition-dominated Senate inquiry called for a new code of conduct to give small business borrowers more protection in dealings with banks. The inquiry was launched partly in response to complaints from business owners put into receivership after Commonwealth Bank’s takeover of Bankwest during the global financial crisis.

Did the Senate inquiry find that banks acted improperly in the Bankwest cases?

The article notes the inquiry did not pass judgment on whether banks had acted inappropriately. However, it said there had been many 'disturbingly similar' cases involving Commonwealth Bank and Bankwest and concluded that arrangements for business borrowers needed improvement.

Which banks and organisations are mentioned in the article and relevant to investors watching bank ROE and conduct?

The article mentions Westpac (and CEO Gail Kelly), Bendigo and Adelaide Bank (managing director Mike Hirst), Commonwealth Bank and Bankwest (in relation to small business receiverships), and the Australian Prudential Regulation Authority (APRA) chaired by John Laker. These names are tied to the discussion on ROE, risk and small business protections.