Disrupting the bank dividend party

A broad wave of regulatory pressure is soon likely to hurt the banks' ability to pay investors the dividends they've become accustomed to.

Globally intensifying regulation and capital requirements for financial institutions are changing the banking landscape and ultimately return expectations for market players.

An Ernst & Young report has broadly identified regulator expectations that may restrict banks from accessing debt markets beyond their country of domicile.  Outlined in the report is the potential for regulator preference to be on banks to re-balance retail and domestic wholesale funding locally. This is not without implications.  

The cost of global wholesale funding has reduced as interest rates border on zero, compounding investors’ and institutions’ motivation to chase yield where they can. Ideally this should boost the ability of banks to use the global debt market, but as Ernst & Young point out, regulatory pressures could alter this access.

Restricted access to international wholesale funding markets is only one side effect of the new wave of increasing regulation across the banking sector aimed at minimising latent systematic problems that face the industry. For Australian banks, a possible implication is paying more for funding as the Australian debt market has potential to be constrained due to its size.

Funding costs, stirred by a new wave of regulation, are only one element of the changing landscape. Regulators are facing increasing pressure to identify and control risks to the global financial system in the wake of Lehman Brothers’ collapse in 2008 by targeting systematically important banks. 

In a move to shore up the global financial system, an emphasis is being publicly placed on systematically important banks, or those deemed too big to fail, which includes the big four.

Domestically, financial services regulator Australian Prudential Regulation Authority has intensified the pressure by suggesting banks limit their dividend payouts to preserve as much precious capital as possible to meet increasing capital requirements, due to commence from 2016.

Reporting season confirmed capital ratios for the big four continue to improve, however in light of the expected requirements for systematically important banks further capital building is likely required.

Consequently dividend growth akin to what investors of the big four have become accustomed to could, in the not too distant future, be a mere memory as banks hang on to excess capital. At this stage APRA hasn’t given further guidance about the capital requirements, putting banks and investors in a state of flux together.

Intensifying regulation of banks globally looks set to curb the gluttony of investors by restricting the ability to pay out excess capital as dividends, in exchange for a more stable environment.