PROFITS ENOUGH FOR SINS AND INVESTORS

THE CBA’s profit steered a tricky — I would add, reasonable and indeed desirable — course between delivering for investors and paying a real cost for both the specific stuff-ups (AUSTRAC and ATMs most starkly) and the more generalised bad behaviour exposed in the Royal Commission.

The most useful way to look at it all is to see two quite distinct profits. The ‘investor profit’ was the 3.7 per cent increase to just over $10 billion. The ‘pay for its sins’ profit was the 4.8 per cent drop to just over $9 billion after the fines and RC costs.

On the investor front, despite a more subdued operating environment — all those regulatory moves to trim bank lending to property investors feeding into a (at least) flattening in the Melbourne-Sydney property market — CBA still managed to tweak all the upsides.

Thanks to a 5 point lift in its net interest margin, it managed to grow income at a positive pace and faster than operating costs; despite mortgage arrears creeping up, actual loan losses remained at (extraordinary) historical lows.

So taking as read that new CEO Matt Comyn can keep the underlying positive CBA dynamic running, there are a number of big questions.

What happens to intrinsic mortgage demand — that critical mix of owner-occupiers and investors, obviously most particularly in Melbourne and Sydney? Within the broader dynamics of the economy?

Secondly, does CBA and even more Westpac (among the big banks) get hit by a default cliff as a great wave of investor interest-only (IO) loans switch to interest and principal (I & P)?

The CBA experience so far is encouraging. It’s captured in that macro — very low — bad debt number. It appears that after any initial difficulty that the higher repayments cause for a borrower, they tend to settle back after a few months.

The other key operating question is what happens to the 30 per cent or CBA’s non-deposit funding as especially US interest rates keeping going up. Again, so far CBA seems to have banks will do well to hold above 13 per cent.

Again, to my mind, that’s a reasonable balance. The 20 per cent was happening when interest rates were around 8 per cent. We now live in a (very) low rate world — the RBA’s 1.5 per cent ain’t going anywhere anytime soon. A 14 per cent return on equity is, frankly, more than enough.

But for bank shareholders — that’s, all of you, every damn one of you, whether directly or via your super fund — it might well introduce volatility in future dividend payments.

CBA lifted its dividend — true, only by a token 1c in each half. I guess that was the board ‘flowing through’ to the owners the increase in the underlying profit, while also making a statement that while executives (and directors) needed to take a haircut, holders were more victims than beneficiaries of bad behaviour.

But it meant that the payout jumped to 80 per cent of the actual profit — that’s the ‘pay-for-its-sins’ profit. That doesn’t leave a lot of room for unchanged dividends if (actual) future profits get hit.

Now that would really pose some — many — very interesting questions: the day the CBA actually cut its dividend. But for now, they are maybe questions, for a maybe tomorrow.

The AMP also had the same ‘two profits’. But the outcomes were nowhere near as comforting.

It’s ‘pay-for-its-sins’ result was barely in the black. After accounting all the costs of its blunders and rip-offs, this profit — the actual profit — dropped nearly 75 per cent to just $115 million for the half.

Further, and in sharp contrast to CBA, even its ‘investor profit’ — the underlying profit that excludes those regulatory costs and is the best guide to what lies ahead for shareholders — fell an unwelcome 7 per cent to $495 million.

Unwelcome, because AMP really is only at the start of the negative future that faces it in the post-RC world. The CBA (and the other banks) can ‘float off’ the conflicts from advice and wealth management. For the AMP the conflicts are its fundamental operating model.