More currency to ANZ optimism

The ANZ quarterly trading update is consistent with two of the main themes of the recent Commonwealth Bank results: there is still growth within a softening economy and last year’s  big drive on costs by the majors continues to flow through to their bottom lines.

ANZ’s seven per cent increase in statutory profits for the nine months to June is in line with the run-rate it established in the first six months,  but the 11 per cent increase in cash earnings represents a material lift when compared with the eight per cent earnings increase of the first six months.

As with the CBA result, there was some top line growth, with income up five per cent, but the key to the earnings increase was that expenses  fell 0.5 per cent and the charge for impairments was also down two per cent.

While ANZ said expenses for the second half were likely to show an increase because of its infrastructure investment program, it still expects a positive relationship between the growth in revenue and growth in costs.

Realising that the environment wasn’t conducive to credit growth, all the majors began focusing more intensely on productivity last year. The results of those programs, which included significant job-shedding, are showing up increasingly in their results, with the growth rates in their income significantly greater than those of their costs.

While the economy might have slowed, some of the majors are still finding growth.

CBA grew its interest-earning assets by four per cent in the year to June, in line with the growth of its deposit base. ANZ is doing even better, with an eight per cent increase in its net lending assets more than funded by a 12 per cent increase in deposits.

The group said it had continued to hold or gain share across its key business segments and had generated good momentum in commercial lending and deposits and retail mortgages and deposits. For more than a year, ANZ has grown its retail lending faster than system growth.

It does appear to be sacrificing some margin to sustain that growth. The group’s net interest margin was down two basis points relative to the end of March and three basis points if global markets were excluded. ANZ says its net interest margin is likely to decline several more basis points by the end of the financial year because of the continuing impact of the low interest rate environment and pressure on its international and institutional margins.

It has also been notable within recent bank results that their bad and doubtful debt levels, which are already low, continue to either hold steady or edge down further despite the economic conditions. That would suggest they are remaining very focused on credit quality, although the low rate environment may also be supporting some of the lesser quality credits.

ANZ’s point of difference with its peers is its ‘’super-regional’’ strategy and the expansion into Asia. It said today there had been good volume growth in priority products linked to that strategy and that client revenues in Asia were up five per cent on the first half’s quarterly average. Expenses had remained tightly controlled and, with volume growth, were helping to offset margin ‘’headwinds’’ from the low-rate environment and price competition and mix.

The international and institutional banking division’s margins, however, were likely to compress about 20 basis points across the second half because of the lower rates and lower average margins in the lending book as ANZ sought to reduce risk.

Because of its regional strategy, there is an additional differentiator to ANZ relative to its peers. Currency shifts have a more material impact on ANZ than most of the other majors.

The group issued a chart with its update detailing how a five cent fall in the Australian dollar relative to the US dollar would impact its performance.

Such a fall (which we’ve experienced) would have some adverse impacts at the margin on returns on equity and on margins because it would increase the relative contribution from lower risk and margin Asian assets. However,  ANZ would benefit from a $2 billion or so cash inflow from currency swaps used to hedge its wholesale funding liabilities and would require less offshore funding for its Australian operations.

Overall, the devaluation would add about 1.5 per cent to half-year earnings, excluding the impact of currency hedges the group might have in place.

ANZ’s Mike Smith is reasonably upbeat about the outlook, citing low rates, the lower dollar and ‘’the removal of some pre-election uncertainty’’ as the reasons for his greater optimism about the medium-term outlook. He also believes concerns about growth in China are over-done and that its economy would still grow at around seven to 7.5 per cent.

Smith has tended to be more blunt and more pessimistic (and more cautious) about the state of the Australian and global economies in the past. That represents a positive shift in tone and confidence which, if it turns out to be justified, would be good news for the economy and the banks.