Capital Position Sets ANZ Ahead Of Its Peers

Array
(
    [0] => Array
        (
            [0] => ((ANZ))
        )

    [1] => Array
        (
            [0] => ANZ
        )

)

This story features ANZ GROUP HOLDINGS LIMITED.
For more info SHARE ANALYSIS: ANZ
The company is included in ASX20, ASX50, ASX100, ASX200, ASX300 and ALL-ORDS

Despite the anxiety prevailing around the Royal Commission, ANZ Bank has received plaudits from brokers as it lowers its cost base to reflect a reduced revenue profile.

-Capital surplus signals scope for additional buybacks to underpin EPS growth
-Revenue expected to lag peers in the second half but countered by a strong capital position
-Is further contraction likely in the institutional bank?
 

By Eva Brocklehurst

ANZ Bank ((ANZ)) has entrenched its preferred status among the four major banks after its first half results signalled ANZ's simplification program was progressing, albeit from a financial perspective, crunching the numbers is a complex task.

Brokers liked the discipline on costs, a decline in the impaireds ratio and the potential for further capital management. What was less appealing was the soft revenue. Risks include an adverse turn of the credit cycle and changes in regulation.

Credit Suisse observes the bank has some specific levers to address costs and capital management, which mean it is relatively well-placed in the sector, but suspects implications from the Royal Commission will overshadow these features in the short term. The broker retains a Neutral rating on the stock.

Citi is more positive, with a Buy rating, and expects the prospect of higher dividends and/or buybacks will provide valuation support for ANZ despite the industry challenges.

Morgan Stanley suspects ANZ has more scope than peers to navigate the current environment but revenue headwinds mean its recommendation stays at Equal-Weight. That said, the stock is the broker's preferred major bank.

Management is more realistic than many peers regarding the banking outlook, UBS contends, having noted credit growth is slowing and standards are tightening. The broker expects revenue growth to be very subdued going forward and the net interest margin to continue to fall while retail fee income comes under pressure.

Ord Minnett estimates ANZ will deliver strong earnings growth of around 5% over the next three years, supported by ongoing buybacks and its attractive valuation. The broker likes the progress on risk-adjusted returns, cost controls and the strong capital position.

The FY19 cash earnings outlook appears weak to Macquarie, but there is a capital surplus and scope for around $6bn in buybacks that should underpin growth in earnings per share. The stock is trading on a PE multiple of around 11.6x one-year forward estimates, which the broker notes is marginally below peers.

Macquarie continues to envisage longer-term value, as the bank simplifies its business and manages expenses better than peers. The bank's capitalised balance is declining as more investment is expensed.

The CET1 ratio improved to 11.0%. Citi suggest the build up in ANZ's capital position is likely to garner more attention from investors versus major bank peers. Further growth is expected, as more divestments are completed, which should result in more returns to shareholders.

The market may have expected a higher interim dividend but Bell Potter believes this is not a major concern, as the current CET1 ratio already exceeds APRA's 10.5% minimum requirement by 2020 and further capital initiatives are likely. A share buyback is still considered the favoured option.

One aspect Macquarie does call out is the fact that the headline result relied on lower bad debts. Revenue is expected to lag peers in the second half although the strong capital position should provide some counterbalance, in the broker's view. Moreover markets income failed to deliver the recovery that was expected.

Credit Suisse also points out an underlying profit downgrade was only saved by benign bad debts and suggests revenue growth is becoming incrementally more difficult to obtain. The bank did not announce a new buyback plan but the dividend reinvestment program is to be neutralised again.

The main positive for Shaw and Partners was the reduction in bad debts because of a large fall in new impaired assets attributed to the institutional division. The broker forecasts no revenue growth from FY18 to FY19 and no expenses growth either. Shaw and Partners, not one of the eight brokers monitored daily on the FNArena database, maintains a Buy rating and $30 target.

Institutional

Despite the fact the bank is shrinking its business, Shaw and Partners finds ANZ's strategy appealing. The previous alternative involved vast amounts of capital in countries which did not offer a acceptable return. Still, the broker believes the current strategy is far from finished because one of the major outcomes of the failed geographic expansion remains evident.

Institutional business in Asia, the Pacific, Europe and America, known as APEA, still attracts 18% of the bank's capital and offers a return of 6%. The broker suspects ANZ has given up on trying to reduce the capital allocated to this business.

In its entirety Shaw and Partners notes the institutional business uses 40% of capital and produces a return of 9%, and, while the bank believes there are many opportunities and it is heading in the right direction, the broker disagrees, suggesting the wrong option must be very unappealing.

Although the run-off of the institutional book appears largely complete, UBS expects ANZ will still announce the sale of investments in Bank of Tianjin, Panin and AMMB over time.

Citi concurs that the institutional bank division is a point of weakness because of lower margins, while low market volatility is affecting total revenue in markets. The broker suggests pressure is building on management to re-shape the cost base, particularly in APEA.

Retail

In Australian retail Citi points out the benefits of last year's back book mortgage re-pricing were largely offset by the bank levy and the continued shift to lower-margin principal and interest lending.

Without further re-pricing the retail bank faces revenue challenges similar to peers. Moreover, a recent decision to close a secured personal lending business to new lending is likely to weigh on margins. Hence, Citi believes the need to deliver cost savings following the restructuring provisions raised in the first half will be paramount.

FNArena's database shows four Buy ratings and four Hold. The consensus target is $29.59, suggesting 7.9% upside to the last share price. The dividend yield on FY18 and FY19 forecasts is 5.9% and 6.0% respectively.

Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" – Warning this story contains unashamedly positive feedback on the service provided.

Click to view our Glossary of Financial Terms