Clouds Are Gathering For Aussie Banks

Australia | Mar 27 2025

From high valuations to unavoidable margin pressures; Australian banks will be encountering plenty of headwinds in 2025.

-How Australia's Banks handled the RBA rate cut
-Sector research Insights: margin trends, loan pricing and deposit rates
-Capital management, buybacks, dividends, and CET1 pressures
-Caution Ahead: risks, valuations, and credit quality

By Danielle Ecuyer

The many moving parts of Australia's financial institutions, the banks, as well as the role they have traditionally played in investors' portfolios makes for interesting analysis.

Changing interest rate cycles, the state of the economy and the trade-off between capital investment versus capital distribution all have an influence on how banking stocks are valued, via earnings, and the relative share price performances.

The latest sector updates from stockbroking analysts focus on the shifting sands of capital management, and what it means for investors, the treatment of RBA rate cuts, the intersection with margins and deposit growth, as well as credit impairment.

RBA rate cuts, what did the big banks do?

Jarden shines a light on how Australia's banks passed on the RBA interest rate cut to their clientele, noting CommBank ((CBA)) and Bank of Queensland ((BOQ)) were the two to abstain from passing on the full -25bps cut.

The broker's latest channel checks point to CommBank retaining around 5bps for what is termed the "front" end of the lending book to new borrowers. This is viewed as assisting with the bank's net interest margin without attracting scrutiny.

Bank of Queensland, via its Virgin Money operation, was the only listed bank not to fully pass on the RBA rate cut to existing borrowers, which is estimated by the analyst to provide upside to the net interest margin of around 0.7bps.

Interestingly, the latter's loan book has been falling for two years, down by -20% in FY24 on the prior year, which infers management has decided to de-emphasise growth from this segment. This is viewed as a "brave" call by Jarden given the upcoming election and widespread concerns over cost of living pressures.

Westpac ((WBC)), National Australia Bank ((NAB)) and Suncorp Group ((SUN)) all cut the discounted loan pricing, down the bottom end of peers, to around 5.8%.

Westpac sustained its position as the "most competitive" in the broker segment and lowered its online rates by -35bps to more closely align with peers, including an online refinance special at 5.84%, down -35bps.

This product has several restrictive caveats, including no offset account, and applicants require less than a 70% loan-to-value ratio, which Jarden notes is similar to other online products.

Online, CommBank and Bendigo and Adelaide Bank ((BEN)) have the most competitive rates at around 5.74%, while Westpac's pricing is most competitive in the brokered discounted space.

On balance, Jarden concludes mortgage pricing competition has increased slightly, but there is scant evidence of a notable pick-up of a "mortgage pricing war".

On the deposit side of the ledger, the broker's channel checks show Macquarie Group ((MQG)) remains number one for net promoter scores (NPS) and broker experience while no longer pursuing such aggressive pricing.

Macquarie also retains the fastest turnaround times at two days versus CommBank and NAB at similar times, followed by Westpac and ANZ Bank ((ANZ)). NAB leapfrogged CBA in both broker experience and NPS, while ANZ improved on both metrics.

Jarden retains an Underweight rating on the sector, implying investors own less than a sector index weighting, with preference for ANZ above Westpac, then NAB and CBA.

Is the red warning flag flying for Australian banks?

Morgan Stanley stresses the banking sector experienced a "purple patch" in 2024; in other words, a positive backdrop and trading conditions last year which underwrote better-than-expected earnings and valuation expansion.

Thus far in 2025, the analyst believes investors remain too optimistic around earnings, and although valuations have fallen from the previous peak, they remain elevated and could be de-rated further.

There is "little margin for error" at current valuations, suggesting the banks will need to thread a positive earnings needle, which is dependent on a benign regulatory and competitive environment, a strong economic recovery, sustained low risk profile of a "safe haven status," all the while advancing capital management initiatives or, put simply, improved shareholder returns.

Last year, the banks benefitted from better-than-expected margins, and capital management also came in above projections. The latest earnings updates showed relatively slight margin improvements for the December quarter, which resulted in earnings downgrades. Capital ratios also missed the broker's forecasts by an average of -25bps, limiting the potential for further share buybacks.

Harking back to our editor's February Result Season 2025: The Wrap, Ord Minnett was quoted as part of the final assessment: "Banks are seeing pressure from contracting net interest margins as competition ramps up, with falling rates an additional headwind."

Morgan Stanley details a long list of possible risks to bank earnings, including higher valuations, a challenge to the safe haven and flow of funds status, a weaker RBA easing cycle and election uncertainty, challenges to deposit pricing and margin outlook, costs coming back into focus, lower-for-longer loan losses, management changes and bank-specific execution risks, less conviction around capital management, and increased competition against a softer macro outlook.

In other words what else needs to go right, or what else could go wrong?

Focusing specifically on capital management, Morgan Stanley highlights the major banks have announced $9.5bn in off-market share buybacks since August 2021 and $19bn of on-market share buybacks, with the big four all announcing a buyback in 2024.

Concurrently, average dividends per share advanced around 9% in the three years to FY24 (they had been cut during the covid lockdowns interruption).

With the lower-than-anticipated CET1 ratios at the December quarter, below expectations by an average of -25bps, and APRA proposing an extra 0.25% of CET1 and 1.25% of Tier 2 capital (expected to be confirmed in 2025), it's not rocket science to infer the banks are likely to be more disposed to retaining rather than discharging capital, the broker proposes.

Although the capital changes are not likely to be implemented until January 2027, banks are viewed as more likely to adopt the proposed changes sooner rather than later as they seek to maintain target "buffers" above the minimum capital requirements.

More capital for the banks is less capital for shareholders, leading Morgan Stanley to lower forecast future buybacks by around -$4bn post February reporting season, and by a further -$3.5bn to account for the higher CET1 target ranges.
The broker no longer forecasts any new buybacks once the outstanding circa $2.6bn of buybacks by the majors is completed.

ANZ and NAB are Hold-equivalent rated by Morgan Stanley, with Westpac and CBA rated Underweight.

Monetary system is tighter than appreciated

Citi joins the Sell rating chorus for Aussie banks, highlighting the underestimated underlying levels of monetary tightening in the economy, despite the narrative surrounding the RBA and possible rate cuts.

Although zero interest rate policy received the bulk of media attention, the RBA, like the US Federal Reserve, indulged in what is referred to as "unconventional monetary policy" or quantitative easing, including the now-defunct Term Funding Facility, which at around $200bn lifted the banks' balance sheet as a percentage of the credit system to around 20% from circa 6% pre-covid.

The RBA's covid-era QE and bond buying continue to "roll off," the broker explains, and some $50bn in bonds are maturing in 2025.