NEWS + VIEWS – 13/12/2024
MARKETS
We would like to wish all clients and their families a merry Christmas and a healthy and prosperous 2025.
This will be the last edition of the News and Views for 2024 and we will resume normal transmission on 17 January 2025.
In an interesting year, global share markets have been buoyant, led by lower interest rates and a US economic recovery. Geopolitical issues in Ukraine and the Middle East have not discouraged investors much at all.
Domestically, the share market has hit record levels with the banks in particular on a roll. On the other hand, the economy has been soft as interest rates have been held at higher levels and private investment has been crowded out by government overspending. This leaves asset prices vulnerable if the private sector continues to weaken.
The first four months of a calendar year have been positive more often than not for share markets, particularly if the preceding December has been positive. The usual uncertainty is added to by high valuations in US stocks (mainly technology ones) and some Australian companies such as the banks.
BANKS HAVE BEEN POSITIVE BUT ARE THEY EXPENSIVE? YEP!
The chart below from VanEck shows just how expensive the Commonwealth Bank (CBA) has become. It also shows how expensive all the four majors and Macquarie Group (MQG) are compared to their offshore peers. The price/earnings (P/E) ratio and book value for CBA, and to a lesser extent MQG, have ‘streeted’ other banks in the developed economies.
CBA is trading somewhere at a P/E of between 25 and 30 times. Typically, Australian banks trade at around 14 times.
The rapid rise in bank share prices in 2024 has been in the face of a very competitive housing loan market as seen by shrinking net interest margins and lacklustre credit growth.
One explanation for the banks’ share price rise is offshore investors moving funds from an ‘uninvestible’ China to a ‘safer’ alternative Asian destination to meet geographic investment mandates, which makes some sense.
Source: VanEck
HYBRIDS TO BE PHASED OUT
The Australian Prudential Regulation Authority (APRA) has confirmed that banks will be unable to issue Additional Tier 1 securities (hybrids) from 2027 and will be phased out by 2032.
Based on the following, we disagree with the decision.
The hybrid market has been successfully operating for two decades.
It has been an effective way for banks to raise capital and retail investors to gain access to bank capital markets.
The strength of the banks’ balance sheets, particularly the major banks, means that the risks to retail investors is very acceptable for the increased returns offered by hybrids.
The decision may push some investors up the ‘risk curve’ (i.e. they may buy the riskier ordinary shares of the bank in lieu of the hybrids).
There is a whiff of political interference as the move will reduce the ability of banks to distribute franking credits to investors.
There are several alternatives to hybrids, some in the form of Exchange Traded Funds (ETF). Betashares Active Australian Hybrids Fund (HBRD) will continue to operate, with discretion to invest in hybrids, Tier 2 securities, senior bonds, and cash. Its Australian Major Bank Hybrids Index ETF (BHYB) will operate as usual given the lengthy run-off period, with the first call date not until June 2026 and approximately 50% of the portfolio due to be called between 2029 and 2032. In the meantime, we expect more products to be issued as hybrids are phased out. However, since they are likely to be perceived as less risky, returns may be lower.
Gerard O’Shaughnessy
P 0423 771 330
Important Disclaimer
The directors, employees and authorized representatives of PPN Wealth do not guarantee the information in this report to be complete, up to date, accurate nor applicable to your personal circumstances. This is general investment advice only. You should not act on recommendations in this report without discussing proposed actions with your PPN Wealth adviser to ensure recommendations are suitable to your circumstances.
The principals, associates and employees of PPN Wealth may have investments in the securities or companies, referred to in this report.
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