Banks offer treat or trick

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This was published 15 years ago

Banks offer treat or trick

By Michael Pascoe

Either the market is offering some of the great buys of the decade or we've witnessed a complete collapse of trust in the chief executives of our cornerstone institutions.

Westpac touched a low yesterday of $15.30. At that price, Gail Kelly is promising to pay you an amazing pre-tax dividend of 13.25%.

ANZ fell as low as $12.65. At that price, Mike Smith is promising to pay an absolutely extraordinary pre-tax dividend of 15.35%.

At noon today, ANZ was down 1 cent, or 0.8%, to $13.03 in early trade, while the Commonwealth was down 47 cents, or 1.6%, to $29.63. NAB was up 5 cents, or 0.3%, to $19.20 and Westpac lost 30 cents, or 1.9%, to $15.25.

Cut away all the fluff and marketing nonsense funds managers use to try to justify their fees and modern portfolio management is basically meant to yield about 7% over time - and there's nothing wrong with that at all. It's a wonderful thing.

But combine Westpac, the most conservative of our big four banks, with ANZ, the more adventurous member of the club, and just their dividend yield is double what you can generally expect to earn, never mind the chance of capital growth somewhere down the track.

Such a disconnect means the market doesn't believe Kelly and Smith or, for that matter, National Australia Bank's John Stewart and the Commonwealth Bank's Ralph Norris.

The market is telling the CEOs: ``You're wrong. You don't know how to run a bank. You think Australia is going to have a soft landing when it's really going to crash. You're incompetent or you're lying and you'll cut your dividends.''

It's a big call for shell-shocked investors to make in the face of such tempting yield. They're also effectively saying the RBA, Treasury, IMF, World Bank et al are incompetent or lying as well because those institutions and our Big Four are all working off pretty similar economic scenarios.

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And make no mistake, Kelly and Smith have specifically promised to maintain dividends. Here's part of the transcript of the October 30 analysts' briefing by Kelly:

Gail Kelly: Our dividend is a good story, as this slide shows, we have been able to increase the dividend by 8% and maintain the strong and steady trajectory that we produced over a number of years...

Analyst: Next year you've got most likely higher bad debt charges, you've got dilution from the DRP (dividend reinvestment plan) and also dilution from St George in the first year. How realistic is it to maintain or even grow dividends in this environment without really sacrificing the Tier I (capital) ratio, or requiring further DRP underwrites for capital reasons?

Gail Kelly: All our modelling suggests that we are entirely in a position where we're able to maintain our dividend trajectory. We wouldn't be otherwise increasing the dividend in the way that we have today. So that's what all of our modelling suggests that we're able to do.

And Smith was even blunter on October 25:

Mike Smith: I felt the market just would not accept a dividend cut right now and I didn't think we needed it right now. The issue is, what are the alternative means of raising capital in the future, so it's a bit of a balancing act. What I'm hoping is that the market will move and/or there will be opportunity to do other things.

Analyst: Won't you have to cut the dividend in the future?

Mike Smith: No.

There's not much room to quibble with that. Such clear promises are worth the heads and massive salaries of those who make them if they fail to deliver. And standing behind Gail Kelly is Westpac chairman Ted Evans, Ken Henry's predecessor as Treasury Secretary.

Yet there are analysts and commentators who must either think they know the banks' business better than the CEOs or that the CEOs lie.

ANZ and Westpac both finished above their lows yesterday but not by much - $13.04 and $15.55 respectively. Scared and skittish investors don't seem to trust anyone any more.

There is an alternative view to the analysts' gloom:

Australia escapes with low growth but growth nonetheless thanks our exchange rate, a surprisingly adaptable workforce and sharp monetary and fiscal stimulus in both Australia and China.

The banks suffer slower lending growth and more bad debts, but balance that with greater market share as key competitors have been wiped out which also means less pressure on net interest margins.

The end result is that they maintain dividend payments despite recapitalisation.

That's what Gail Kelly and Mike Smith are promising. And next year in that scenario, when interest rates on bank deposits are markedly lower, high dividend yields on bank shares will appear even more attractive.

One thing's for sure - investors are being paid a healthy premium to take a risk.

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Michael Pascoe is a contributing editor to BusinessDay

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