APRA Delivers Some Welcome Relief To Banks

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An extension of repayment deferrals by APRA is considered timely, providing some relief to the banking system as government stimulus winds down from September.

-Higher proportion of SMEs have taken up deferrals versus retail customers
-Little disclosure on the degree of stress being experienced
-More opportunity for banks to restructure loans
 

By Eva Brocklehurst

While Australia's management of the coronavirus pandemic has been comparatively well received in a global setting, enabling the economy to re-open somewhat, the recent outbreak in Melbourne is a significant setback.

Given Melbourne is Australia's second largest city, with around 20% of the population, and contributed 40% of GDP growth in 2019, the impact on the economy is likely to be substantial, UBS asserts.

So, what is likely to be the effect on the banking system? The latest announcement by APRA is considered timely, therefore, providing some relief to the system as the commonwealth government stimulus and JobKeeper payments end in September.

APRA has granted an extension of the repayment deferrals for bank customers, allowing deferrals to cover a maximum period of 10 months from the start of the deferral or, under special circumstances, until March 31, 2021.

Qualification for deferral extensions has been tightened, as up to half of the current loan deferral borrowers have been able to make repayments and the phase 2 extension will be limited to borrowers with a "genuine need".

Citi suggests the announcement is a significant concession that should help manage the economic impact of the Melbourne lockdown, the winding down of fiscal stimulus and superannuation withdrawals. It should also help ongoing disruption for key sectors such as tourism & hospitality.

Banks have been advised to encourage customers to go back to making full repayments if they can, and to do so before the end of September/October. For those with ongoing financial difficulties, banks will seek to facilitate a return to payments through restructure or variation of the loans.

If such arrangements are not in place at the end of six months, customers will be eligible for an extension for up to four months. JPMorgan is not surprised by this development, given the lingering impacts from the pandemic and the need to avoid a "financial cliff" around the end of September.

APRA has indicated a much higher proportion of small-medium enterprises (SMEs) have taken up deferrals, compared with retail customers. There was also an additional $36bn of loans approved for deferral in May, although the pace of additional deferrals has slowed dramatically since April's $100bn.

Around 20% of borrowers on deferrals are still making full or partial repayments. Still, Morgan Stanley points out the number of borrowers making some form of repayment is falling and loan deferrals will continue to grow.

By value, all banks have roughly similar portions of their home loan books in which repayment holidays were approved. And, not surprising, SME customers are the most affected.

JP Morgan estimates National Australia Bank ((NAB)) has a higher proportion of deferred housing and SME loans, all of which account for around 10.5% of total Australian loans. There has been little disclosure on the degree of stress being experienced by borrowers and limited information on customer circumstances that have resulted in deferred repayments.

While the disclosures are a step in the right direction there is not enough information on the number of borrowers who are unemployed, furloughed or receiving JobKeeper, the broker highlights.

Capital Treatment

APRA has also announced regulatory relief around capital treatment of loans will be extended and the loans that are restructured prior to March 31, 2021 will be treated as performing for capital & reporting purposes.

While the consensus expectation is for flat credit impairments in FY20, UBS suspects there will be another acceleration in FY21, as the level of policy stimulus is reduced and banks are forced to treat many of the exposures as impaired. However, there is likely to be a sharp reduction in credit impairment charges in the second half of FY20 for the banks.

If the outbreak spreads beyond Victoria, particularly into NSW, and requires more of the country to go into lockdown, UBS then assesses FY21 earnings and dividend recovery will be at risk.

Citi considers APRA's announcement a favourable outcome for the sector. It is particularly beneficial for smaller lenders and helps support the view that milder loan losses should drive higher-than-expected dividends out to FY22.

Macquarie believes APRA's action reinforces the severity of the current situation. With around $260m in loans being deferred, and with additional restrictions in Victoria, the number of businesses in difficulty is likely to rise and could lead to an material increase in provisioning by the banks as well as real weighted asset inflation. Hence, Macquarie continues to envisage a risk to bank dividends for FY20.

That said, the deferrals provide banks with more time to deal with the issues confronting them, including the opportunity to restructure loans. Moreover, more customers are likely to be able to return to more normal employment by March 2021 and this provides scope to avoid delinquencies.

It allows banks to resolve issues without putting customers in default. Still, Macquarie suspects getting customers back to regular repayment schedules may be challenging. The most significant impact on bank earnings is likely to come from defaults, in the broker's view, although this is captured in its current impairment charge forecasts at $7-8bn across the major banks in FY20-21.

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