• Wallace Fan

Know your bank

SunTzu’s Art of War says, “Know other, know self, hundred battles without fear.

So, we should demystify the drivers behind the banks’ behaviour. Two most frequently voiced problems with relationship banks are memory lapse and complacency.

What is driving these problems? To answer this question fully, we ought to firstly acknowledge that banks are no nobler than any other corporates. They run a business and have to add value to their shareholders, like all businesses.

Part of the disconnect for extreme bank-bashing is that people hold false expectations of banks. As we know, all four Aussie major banks and the regional banks are ASX listed. In fact, the four majors collectively have a market capitalisation of over $350bn and a weighting of over 35% of ASX100.

If you combine all listed financial shares on ASX, their aggregate market capitalisation is 46% of ASX100. They have more shareholders to answer to than most companies put together.

Now we are in agreement that banks are just another form of corporation or business, we can understand that return on equity (ROE) is also a common metric that banks use to measure and manage their performance. They have to maintain ROE if not increase it, year-on-year.

Despite all the super profits and increases in asset value the banks announced, the fact is that they have been underperforming in comparison to pre-2008. Average ROE of four majors in around the 15% mark which is far from the high of 20.7% in 2006.

CBA is the only bank that has managed to consistently outperform its peers in the past few years. However, its ROE of circa. 16% ranks outside of the top 30 of ASX100 even with its well-discussed super profit. CBA’s ROE is dwarfed by the likes of Woolworth’s, BHP's, Telstra, which are all at over 25%. Considering the balance sheet of banks a leveraged business by nature, their returns, in comparison, are not impressive at all. So, what does it mean to us?

They have to lift ROE in order to maintain their shareholder base.

How? The answer is to pull every lever which has direct impact on ROE.

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