Big banks ease bank levy pain with rate rises

The Australian 12:00am July 4, 2017

Michael Roddan

Interest rate increases from the banking sector have already recouped about half the cost of the federal government’s major bank levy, with property investors and the most indebted owner-occupiers with interest-only loans supporting the sector’s profits.

Although the major banks have said that the recent rate rises of 30-35 basis points on interest-only borrowers are not related to Scott Morrison’s $6.2 billion bank levy, they will increase profits over the financial year.

Macquarie Wealth analyst Victor German said although ANZ, Commonwealth Bank, National Australia Bank and Westpac passed on rate cuts of between three and eight basis points for owner-occupiers paying down loans with both principal and interest, the larger rate increases on interest-only borrowers would more than offset the cost of lower rates for owner-occupiers. Interest-only loans account for almost 40 per cent of the major banks’ loan books.

Mr German said the overall impact of the rate changes would boost profit margins by between two and six basis points, which would feed through to a boost in bank earnings of up to 4 per cent. The federal government’s bank levy is expected to reduce the bank sector’s profits by about 4-5 per cent. Mr German said the banks were likely to improve profit margins by between two and five basis points over the second half of the 2017 financial year alone, thanks to the rate rises.

“Banks continue to surprise us with their ability and preparedness to reprice their mortgage books,” he said.

Thanks to the recent interest-only rate increases and “clarity on the impact of the bank levy”, Mr German upgraded his profit forecasts for the banks by between 1 per cent and 3 per cent over the next two financial years.

The big four banks’ combined profits totalled about $15bn for the first six months of the current earnings period.

In late March, the Australian Prudential Regulation Authority announced new rules limiting the share of new interest-only lending to 30 per cent of each bank’s portfolio. The banks responded by hiking interest rates on interest-only borrowers, of which about 75 per cent are investors, in a bid to dampen demand for the loans and to encourage borrowers to shift to loans where principal payments are required.

Last week, the nation’s largest lender, Commonwealth Bank, increased rates on interest-only loans by 30 basis points. This followed a 30-basis-point rise for ­interest-only loans from ANZ, a rise of 35 basis points from ­National ­Australia Bank, and a 34-basis-point rise by Westpac, all within the past month. Along with the interest-only rules, banks must also strictly limit growth in investor loans to 10 per cent a year, which has pushed investor rates higher. Mr German said that compared to a year ago, all interest rates — apart from owner-occupiers paying principal and interest — had climbed between 10 and 65 basis points, despite the RBA cutting the official cash rate by 25 basis points during the ­period.

Steve Mickenbecker, financial services executive at rate comparison group Canstar, said owner-occupiers with interest-only loans were “probably the highest stressed group in the market”.

Mr Mickenbecker said that along with property investors, these two groups of borrowers were “doing the heavy lifting to slow the property market and to lift bank margins”, with investors being hit by an average 74 basis point rate rise since last August’s RBA rate cut. “This has been in response to APRA’s qualitative controls to restrict new investment and interest-only lending but it seems existing borrowers are also bearing the brunt of the rate increases,” Mr Mickenbecker said.

Mr German said although the interest rate rises were boosting earnings in the short term, over the longer term the benefit was likely to diminish if borrowers switched to principal and interest repayments. Although a borrower’s monthly repayments increase by about 40 per cent when moving from interest-only to principal and interest, the banks earn less money as loans are paid off faster.

Mr German said if a third of all interest-only borrowers shifted to principal loans, bank earnings would be reduced by 1-2.5 per cent.