MARKETS SPECTATOR: Big four bank bubble?

UBS and Citigroup are going head to head over the true value of Australian bank stocks, with the former arguing that when they fall, they'll fall hard.

Research notes by the two of the most powerful equity franchises in Australia, Citigroup and UBS, take vastly different views of ANZ, Commonwealth Bank, NAB and Westpac shares. Citi says ANZ, CBA and Westpac are a buy. UBS says ANZ and CBA are a sell. It has a neutral recommendation on NAB and Westpac.

In a research note entitled Welcome to the great bank bubble of 2013, UBS analysts Jonathan Mott, Chris Williams and Adam Lee say ANZ, Commonwealth Bank, NAB and Westpac are trading at a 2013 forecast PE of 14.9 That’s a record. It places all four among the 11 biggest banks in the world by market value. Australia’s bank stocks are at “bubble valuations” and assume the four banks will continue to operate in a benign credit environment.

Citi says that’s ridiculous. “To argue that a stock is expensive relative to historic levels is akin to saying ‘don’t buy a loaf of bread today because it was cheaper 10 years ago,’ ” says Citi in a research note titled Popping claims of an Australian bank share price ‘bubble’ ”. 

Australia’s big four banks are the “lowest risk, highest returning banks in the world,” Citi analysts Craig Williams, Wes Nason and Andrew Minton argue. “Come join the dance,” they urge investors.

UBS reckons Australian bank profit growth is slower than many of their foreign peers. The analysts acknowledge ANZ, Commonwealth Bank, NAB and Westpac are “profitable, resilient, well capitalised and well managed” but that doesn’t make them stocks to buy while they are trading at current levels. Bank stocks have been pushed into bubble territory by global central banks slashing interest rates and printing money. The US Federal Reserve is throwing US$85 billion into the financial system every month. Australian banks have rallied 47 per cent since May 1 after Mario Draghi pledged to do “whatever it takes” to save the euro in July last year.

Bank yields on average are now around 5.1 per cent, according to UBS. Investors who are buying bank stocks for such yields better be aware that the yields are pricing in a benign credit environment, the analysts say. “Bank stocks are now low growth and remain heavily exposed to housing, funding markets and unemployment risk,” say the UBS analysts.

Citi says bank shares continue to trade with an equity risk premium. Bank dividend yields are some 200 basis points over government bonds and 170 basis points over term deposits, Citi analysts say. They say bank balance sheets are better funded and have a lower credit risk mix than at any time over the last 10 years. Moreover there is no sign the market share of the four largest banks is going to be challenged, making their franchises very valuable compared to other markets around the world.

UBS acknowledges that in a bubble prices may continue to rise longer than many expect. But investors better be aware than when the bubble is pricked the fall may be swift and hard.

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