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The sleeper issue that could be a nightmare for banks

Neither of these bode well for the large established banks.

Toxic cocktail

Firstly, the brokers will need to increasingly scour the entire market for the best deal – not just the big four. This will include smaller banks, building societies and the increasing plethora of branchless online non-bank lenders.

Also churn is a lender’s enemy because writing a mortgage is expensive – it’s a cost that banks prefer to amortise over a longer loan period.

And increased competition promotes lower pricing.

Together they are a toxic cocktail for the banks’ net interest margins.

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This will make it potentially even more difficult for the big lenders to manage in an environment of falling interest rates.

As Mott notes in his report, “should the banks not pass the majority of the Reserve Bank’s rate cuts through to customers to help protect net interest margins and return on equity, we believe this benefit will be quickly eroded as customers churn into lower rate (or larger discount) loans in subsequent halves”.

The big banks have traditionally had the ability to support their margins by repricing loans.

So the risks for them that flow from new behavioural standards for mortgage brokers are acute, thanks to the very large shift by customers towards these intermediaries.

“The major banks’ proprietary (branch) mortgage approvals have fallen by one-third since financial year 2015, and today represent only 37 per cent of total system sales, down from 48 per cent in financial year 2013,” the UBS report states.

Under pressure

Such is the shift away from applying for mortgages through bank branches that UBS estimates that, for example, ANZ’s writes only 4 per cent of total system loans through its proprietary branch network. The CBA, which has a far bigger branch network, boasts 15 per cent of total loans across the entire mortgage market come through its branches.

It is easy to understand why, if this trend continues, there will be increased pressure on big banks to pare back branches to take costs out of their business.

Curiously, the popularity of mortgage brokers has continued despite last year’s royal commission into financial services, which heard damaging evidence about their practices.

UBS analyst Jon Mott says bank valuations are stretched.

UBS analyst Jon Mott says bank valuations are stretched.
Credit:Nick James Fraser

This suggests the behavioural stain left on banks left by the commission is more difficult to move on from.

Already there is evidence that the 79 per cent market share that the big four have enjoyed has been coming under pressure.

Mott says new lending (which the industry refers to as front-book) competition is likely to intensify as customers continue to migrate away from the major banks’ branches. He argues the current net interest margins and returns on equity are not sustainable for the major banks.

Lenders will be praying that the early signs of a recovery in home prices will spur borrowers back into the market.

Although interest rate margins might receive a slight bounce in the current half, the analyst expects net interest margins to come under significant pressure during financial year 2020 and beyond as interest rates fall.

Overall UBS’ prognosis for banks is fairly bleak. It expects dividends, earnings, capital and returns to come under increasing pressure.

This in turn will spill into share prices, which UBS believes are stretched.

It is fair to say the UBS view is at the more negative end of the spectrum, but most analysts are pointing to increased challenges for the big banks.

Lenders will be praying that the early signs of a recovery in home prices will spur borrowers back into the market.

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