MARKETS SPECTATOR: Westpac's rating whittled

Nomura has downgraded Westpac to neutral from buy.

It's time to move to a more cautious view of the banking sector, especially Westpac according to Japanese investment bank Nomura.

Following Westpac's recent outperformance, its discount to its closest peer (CBA) has now closed to around 5 per cent, which is in line with its historical average. Around the beginning of Q3, Westpac had been trading at a significant discount to Commonwealth Bank, as can be seen by the red rectangle below.

Source – Iress

As Q3 has played out and in line with Nomura's thinking, Westpac has outperformed by around 8 per cent, bringing it back in line with its historical average.

"While ANZ is still yet to announce its new standard variable rate (SVR), across its peers Westpac's SVR remains the highest and its gap to its closest peer Commonwealth Bank is now 11 basis points, which suggests that Westpac is likely to continue losing market share or discount more aggressively to attract new business. We believe that over time Westpac will have to meet peers on price hence some of its near term margin benefits are not likely to be permanent,” Nomura said in a note to clients.

"Following around an 8 per cent relative outperformance over the past quarter, Westpac's valuation appears broadly in line with peers, currently trading at approximately 12 times one year forward price to earnings (P/E), which represents around a 5 per cent premium to the sector”. Hence, Nomura now finds it hard to justify a buy rating on the stock and has downgraded it to a neutral rating.

Source - Iress

Looking at the bigger picture, the chart above shows just how much the financial sector has outperformed the broader market over the last four months, as domestic and international investors looked for high yielding stocks.

Given this outperformance, we don't think Nomura is alone in thinking that the financials are due for a bit of a breather.