BANKING ON APRA
Those trying to work out why the share prices of the two regional banks have been hammered much harder than the big four banks this year won't find any simple answers.
But if you search hard enough you might actually find some glimmers of hope which rest on swift decision making by the Australian Prudential Regulation Authority.
Bendigo and Adelaide Bank shares are down 27 per cent and shares in Bank of Queensland are down 17 per cent since the start of the year. Compare that with the big four banks which have fallen between 12 per cent (Commonwealth Bank of Australia) and 7 per cent for Westpac Banking Corp.
The most obvious reason why the regionals have been sold off is that the latest financial results were hardly inspiring.
Bendigo's half year results included low or negative loan growth, margin compression and prompted analysts to issue earnings downgrades. There was a perception that Bendigo was too reliant on the mark-to-market profits in its Homesafe wealth release product. Bendigo also was criticised for its low level of capital generation.
The negative sentiment actually hit Bendigo shares before its results came out on February 15, because of a profit downgrade at BoQ issued on February 9.
BoQ's results for the six months to February 29 are due out on April 7.
One way of interpreting the Bendigo results is that it suffered from the recent changing risk weighting of mortgages for the big four banks.
The Financial System Inquiry recommended that the average risk weight on Australian residential mortgage exposures be increased from about 16 per cent to 25 per cent.
This ruling was issued by APRA in July last year. It prompted the big four banks to raise about $20 billion in capital.
In response to the higher capital, the banks repriced their mortgage loans. But ahead of that repricing there was an almighty rush by the big four to increase the mortgages on their books.
Bendigo was collateral damage as the big four hoovered up loans in anticipation of lifting the interest rate charged.
Concerns were raised by a number of analysts about Bendigo's relatively low level of common equity tier 1 capital, which was 8.2 per cent at the end of December. That compares to about 9 per cent for the big four banks, 8.9 per cent for BoQ and 9.4 per cent for Suncorp Bank.
There is the prospect of significant capital relief for Bendigo and Suncorp once their applications for advanced accreditation are approved by APRA.
Advanced accreditation allows banks to operate at lower risk weightings for loans because it recognises a much higher level of knowledge in relation to the loan book.
The awarding of advanced accreditation could have a significant impact for both banks.
Bendigo has a mortgage book of $37 billion and holds tier one capital against that of about $1.1 billion. That capital calculation is based on a 40 per cent risk weighting for its mortgages.
Advanced accreditation could allow Bendigo to get its risk weighting down to about 25 per cent for the bulk of its mortgage book. That would allow the bank to lend about $20 billion more with the same level of capital.
The bank could grow into its stronger capital base without having to do a capital raising. It is possible that some of the weakness in the Bendigo share price can be attributed to concerns about the timing of the advanced accreditation.
APRA is likely to co-ordinate its advanced accreditation processes so that both Bendigo and Suncorp are approved at around the same time.
APRA has said that its accreditation process will be staged over time. That could mean that Bendigo's mortgage book would gain approval ahead of its business loan book.
It is not clear how APRA will work through these issues. But there is the real prospect that both Bendigo and Suncorp will have significantly more capital fire power.
The awarding of advanced accreditation to Bendigo and Suncorp would mark the second milestone in trying to improve the competitive neutrality in the financial system.
However, potential borrowers should not necessarily expect a loan price war driven by the regional banks taking advantage of their stronger capital.
The regional banks have the same pressures to reward shareholders as those facing the big four.
The end result of the FSI recommendations in relation to changes to loan risk weights might well be hard to pin down.
It could well result in more choices for consumers in terms of loans on offer but with no discernable differences in prices between the big four banks and the regionals.
That sort of outcome will please shareholders of the regional banks and possibly lead to a reassessment of the negative scenarios currently being priced into the market.
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