Deutsche Bank analysts warn car loans pose profit risk for big banks

Australian Financial Review Feb 25, 2019 4.45pm

Jonathan Shapiro

Late payments on car loans could wipe out as much as 23 per cent of big banks' profits, say Deutsche Bank analysts who have flagged the problem as an understated risk for investors.

In a note titled Is there a canary in the car?, Deutsche Bank analysts Matthew Wilson and Anthony Hoo argue that an increase to more normal loan-default levels could affect bank profits and force dividend cuts.

Although consumer loans, including car loans, are often overlooked by investors because they account for just 2 per cent of total loans, Deutsche Bank points out these exposures account for 34 per cent of common equity tier-1 capital, while 17 per cent of net profits are exposed to the sector. An increase in late payments could wipe out between 5 per cent and 23 per cent of big-bank profits.

For this reason, a rise in Westpac's automotive loan book warrants further attention, the Deutsche Bank analysts say. Westpac has a $21 billion consumer lending book but accounts for 46 per cent of CET1 capital, which divides the lenders' risk-weighted assets by the equity capital held by the lender.

Although home loans account for most loans by major banks, these exposures are considered safe and attract a very low risk weight, which means banks hold only a modest amount of capital against each exposure.

But Westpac's car loans that are more than 90 days in arrears have more than doubled from 1 percentage point to 2.4 percentage points of outstanding loans.

Dividend payout ratios

Westpac is the only bank that discloses car-loan arrears and the 2.4 percentage points is substantially higher than the overall 0.9 percentage-point arrears rate that Fitch Ratings Dinkum ABS Index reports.The Fitch index tracks arrears in securitised loans across several lenders, including Macquarie and Volkswagen Financial Services.

The Deutsche analysts suspect this difference in reported performance may be to ensure data in the public domain illustrates a better loan performance.

A deterioration in car-loan risk, even to historically normal levels, could materially affect Westpac's profits, they say. "Should bad debts in the consumer loan book revert to risk tendency [an estimate of bad debts through a full economic cycle], then 9 per cent of cash [net profit after tax] is at risk," they say.

"Should we see a normal credit cycle, then 23 per cent of cash NPAT is at risk."

The potential for higher consumer loan arrears to erode profits is "further evidence that dividend payout ratios are too high", Deutsche Bank says.

The amount of outstanding automotive debt is not known, but Deutsche analysts say it is not trivial. Total consumer debt in Australia is $148 billion, of which $52 billion is credit cards, so some proportion of the remaining $98 billion relates to auto loans.

A further $15.6 billion of consumer and equipment loans are securitised, of which a certain proportion relate to car loans. About $61 billion has been extended by the major banks in the form of mortgage lines of credit, where the Deutsche Bank analysts believe much of the car lending takes place.