Funding costs pressure big banks to lift rates

The Australian 12:00am July 2, 2018

Scott Murdoch

The major Australian banks are coming under pressure from escalating wholesale funding costs and could raise lending rates soon in a decision that is likely to keep the Reserve Bank from taking official action on interest rates.

Benchmark short-term rates, which the major banks borrow against, have been steadily rising since the start of the year and the increase has already forced some smaller lenders to jack up rates independently of the central bank.

One top executive with a big four bank told The Australian that pricing for deposits was rising across the board, adding to pressure on mortgage margins.

Bank of Queensland, Suncorp, AMP Bank, IMB and ME Bank have increase standard variable lending rates between 0.4 per cent and 0.12 per cent in recent weeks.

The rising money-market rates will be high on the Reserve Bank’s agenda when the bank meets in Sydney tomorrow for its monthly board meeting to consider the official cash rate.

The three-month bank bill swap rate has risen from 1.79 per cent at the start of the year to 2.11 per cent, a 61 basis point spread compared the official cash rate of 1.5 per cent.

The six month rate has gained 24 basis points from 1.99 per cent to 2.23 per cent, which also places it well above the Reserve Bank’s rate.

The three-month rate traded for most of the past year around 1.7 per cent. The recent increase has been partly attributed to the US dollar rising on the back of currency repatriation.

Analysts have blamed the rising bank bill spread in Australia on banks trying to lock in funding in the second half of the year. At the same time global wholesale money markets had taken a cautious approach to Australian commercial bank debt during the royal commission, a senior banker said.

Rivkin Securities investment analyst William O’Loughlin said wholesale funding rates were expected to remain higher in the short-term. “If these rates remain elevated banks may be forced to hike borrowing rates independently from any change in the official cash rate,” he said.

AMP Capital estimates the major banks derive about 20 per cent of their funding from the bank bill markets, while the smaller lenders rely more heavily on the debt source.

AMP Capital head of investment strategy Shane Oliver said the international money market rates started to increase as US companies began to bring US dollars back to their home markets.

“But it has continued in Australia, possibly reflecting a desire to lock in funding ahead of the financial year end after the squeeze into the March quarter end, the Westfield takeover and regulatory reforms including the impact of the royal commission,” he said.

“The increased cost of funding for banks only amounts to less than 0.1 per cent if it’s fully passed on to all rates, so it’s small.

“Banks so far seem to be focusing the pass-through on rates other than traditional owner-occupiers on principal and interest loans — given the desire to avoid more adverse publicity — which will reduce the impact on households. Big banks which are yet to move, but are expected to do the same.”

JPMorgan Australia’s chief economist Sally Auld said the prospect of the Reserve Bank shifting from its long-held official cash rate of 1.5 per cent was reduced if the big banks shifted lending rates.

The RBA has held the cash rate steady for nearly 23 months and is not expected to change that stance tomorrow.

Bank analysts have forecast, using Westpac as an example, that a 31 basis point rise in the three-month money market rates spread, compared to official interest rate, could hit bank profits by 4-5 per cent.

The big banks’ net interest margins could be impacted by nearly 7 basis points.

JPMorgan’s Sally Auld said the banks would have to raise lending rates by 9 to 15 basis points to recoup those costs.

“The independent repricing of mortgage rates — should it be implemented by the major banks — will further entrench the RBA’s inaction on policy and will bias estimates of the neutral cash rate low,” Ms Auld said.

Brokerage Citi has tipped that the big four lenders could start lifting variable mortgage rates from September to shore up earnings expectations for the 2019 fiscal year.

Citi said short-term wholesale funding costs had remained high since February and there were few signs of them reversing.

Citi said the Big Four banks were likely to announce a repricing if the spike in funding costs continued.

“Mortgage-centric lenders can no longer hold on, and have repriced,” the Citi analysts said.