(At the end of 2020, troubled and impaired assets were $8.2 billion, or 0.7% of total loans.)
Total provisions fell to $5.85 billion at the end of the year, down 6% from the $6.22 billion level at the end of June.
Technological superiority and operational finesse
The softer backdrop allowed the Commonwealth Bank to reduce its collective provisions by 5% to $5.06 billion, while individually assessed provisions fell 12% to $792 million.
The easier economic ground meant that instead of recording an $882 million loan impairment charge, as it did in the six months to December 2020, Commonwealth Bank enjoyed an advantage for loan impairment of $75 million.
But it was the power of the Commonwealth Bank’s engine that impressed analysts at Wednesday’s briefing.
Taking advantage of the smoothness of the roads, Comyn pressed hard on the pedal and the country’s largest lender swung into action.
For example, home loan funding in the six months to December 2021 jumped to $94 billion, a 45% acceleration from the same period a year earlier.
Comyn recognized that the bank’s technological superiority and operational elegance gave it a huge competitive advantage over its heavier rivals.
In a booming housing market – where house prices were rising at an annual rate of more than 20% – the bank issued an automatic same-day decision to around 65% of its customers who applied through branches. form the bank.
Despite Comyn’s masterful performance at the wheel, there’s no doubt the bank faces formidable challenges to maintain its momentum.
For example, in the home loan market, the bank is on a treadmill. The problem is that he needs to achieve sensational growth in new home loan funding just to expand his home loan portfolio at a reasonable pace.
While new financing increased dramatically by $94 billion in the six months to December 2021, the bank’s total mortgage portfolio grew by a much calmer $23 billion (or 4.5%) , from $516 billion at the end of June to $539 billion. six months later.
Changing economic context
Indeed, the bank’s customers repaid approximately $20 billion of their home loans during the six-month period, and they repaid another $40 billion either because they sold the property or because refinanced their loan with another lender.
And the bank’s new funding figure also includes about $11 billion of existing Commonwealth Bank home loans that were refinanced in the six months.
The problem is that it will be difficult for the Commonwealth Bank to keep up the speed of growth in its home loans as rising interest rates cool some of the frenzied activity in the housing market.
Additionally, Comyn and its management team will need to remain vigilant as they negotiate further challenges in the changing economic environment.
Of course, the Commonwealth Bank – like all banks – will get some relief on its interest rate spreads – the difference between what it costs it to raise and the interest rates it charges its customers – when the Reserve Bank starts raising interest rates.
Squeezing interest margins on low-rate deposits isn’t the only challenge the bank faces.
The Commonwealth Bank now has $170 billion in low-rate deposits that are not too sensitive to changes in official interest rates.
And he estimates that every 25 basis point increase in official interest rates will increase his net interest margin by about 4 basis points over time.
Thus, the rise in interest rates should help alleviate some of the intense pressure on margins that the bank has suffered over the past three years, which reduced the group’s margin by 214 basis points during the six months. to December 2018 to 192 basis points during the half year to December 2021.
Since 2019, the Reserve Bank has cut rates by 140 basis points, from 1.5% in May 2019 to 0.1% in November 2020.
The Commonwealth Bank estimates that the decline in official interest rates reduced the net interest margin on low-rate deposits by around 15 basis points (net of the hedge put in place by the bank).
Commonwealth Bank Chief Financial Officer Alan Docherty told analysts on Wednesday: “To put this into context, 15 basis points of margin equates to a reduction in net interest income of $1.4 billion a year. “
But compressing interest margins on low-rate deposits isn’t the only challenge the bank faces.
There’s also the growing popularity of low-margin fixed-rate home loans, which has squeezed a further 12 basis points from the bank’s margin over the past three years.
In the six months to December 2021, nearly half of all homeowner loans (47%) were fixed rate loans, while variable rate loans made up the remaining 53%.
This is a sharp increase from the same period a year earlier, when fixed rate loans accounted for 38% of all home loans and variable rate loans 62%.
Bankers are hoping that as bond yields rise in line with rising inflation, rates on fixed-rate loans will also rise, reducing their appeal. And that should drive demand for higher-margin, variable-rate home loans.
Nevertheless, intense competition in the home loan market has reduced the pricing of variable rate home loans. Commonwealth Bank estimates that price competition for such loans has eroded its margin by an additional 13 basis points over the past three years.
Meanwhile, rising interest rates will inevitably increase the bank’s funding costs, which will compress its interest margins.
Commonwealth Bank estimates that lower wholesale funding costs (including the Reserve Bank’s term funding facility) have inflated the bank’s margin by 13 basis points over the past three years.
Moreover, the bank could also feel the pain of higher funding costs on its retail deposits even more if its competitors react to higher official rates by aggressively raising the interest rates they pay on deposits in the aim of increasing their share of household savings.
It is also evident that the quality of banks’ loan portfolio could come under pressure due to the likely rise in interest rates and subsequent decline in asset values.
The Commonwealth Bank tacitly acknowledged this risk in its latest result in its prudent decision to continue to conservatively maintain its total provisions at around 1.5% of its credit risk-weighted assets.
The author owns shares in major banks