New rules increasing minimum capital requirements take shine off Australian banking sector
Australian banks should be able to absorb the latest regulatory uppercut. The local financial watchdog has aggressively hiked minimum capital requirements for top lenders, the latest step in a campaign to better protect the country from financial shocks. The caution is warranted given the finance sector’s concentration – and record household debt levels. A grace period will make it easier for banks to meet the new rules. But outsized returns could be a thing of the past.
The Australian Prudential Regulation Authority ( APRA) is demanding that the country’s Big Four banks – ANZ, Westpac, NAB and CBA – maintain an “un- questionably strong” Common Equity Tier 1 level of at least 10.5 percent, substantially higher than a current global benchmark of 8 percent. For large Australian banks, APRA says this means raising minimal capital requirements by the equivalent of 150 basis points from current levels.
Higher buffers are justified. A domestic housing boom has offered the banks a good run. But cracks are starting to appear. The ratio of housing debt rose to a staggering 135 percent of annualized household income in March, central bank data shows, the highest on record.
In dollar terms, tougher capital requirements translate into about A$ 9 billion ($ 7 billion) of additional capital all round, Morningstar analysts reckon. But we probably won’t see a repeat of the hefty capital- raising exercise that happened in Australia in 2015. Banks have until the start of 2020 to meet this new target. The lenders have also been spared the headache of hiking the risk weight applied to mortgages immediately, although tougher rules are in the pipeline. They should have enough time to generate the capital internally or raise cash through assets sales. ANZ, for example, is already shedding large chunks of its foreign operations.
This exercise is however taking some of the shine off the Australian banking sector. Total returns at the big four have outperformed the MSCI global banking index by a large margin over the last decade; foreign rivals were hit harder by the global financial crisis. But in the past two years returns have fallen below the global index. It’s fair to assume that such normalization will continue.