When a would-be treasurer has his ‘Sir Humphrey’ moment

Monday, 4 February 2019
Melbourne, Australia
By Matt Hibbard

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I don’t know how your weekend went, but I’d guess it was more interesting than Treasurer Josh Frydenberg’s.

After surviving that stare from Commissioner Kenneth Hayne on Friday at the handover of the final report of the royal commission, the treasurer bunkered himself down over the weekend, along with his advisors.

Speculation about the length of the report has it at close to 1,000 pages. And I would bet that it is in that really small font. The type of font that, even if you already wear prescription glasses, will soon have you booking a visit to your optometrist.

If it’s any consolation, at least that will make it shorter than War and Peace. Who knows, it might even be more readable.

We will cover any fallout from the report in your edition tomorrow. Fair to say though, it is going to be a busy week for Commonwealth Bank’s CEO, Matt Comyn.

Not only does he and other bank bosses have to respond to the report. He is also due to deliver CBA’s half-year results this Wednesday.

Despite the ongoing turmoil from the royal commission, analysts are still predicting a strong result. Not a bumper result, mind you. Somewhere around (or slightly ahead) of the same period last year.

You never know. CBA’s CEO might find himself in the unusual position of having to defend a strong financial result, in light of the commissioner’s findings.

Needless to say, with the sheer size of the banks, and the huge weighting they represent in the Australian indices, the fallout could be huge. Or maybe, not at all.

Before we get to that, first a look at the markets.

Markets

Over the weekend, the Dow Jones Industrial Average closed up 64.22 points, or 0.26%.

The S&P 500 gained 2.43 points, or 0.090%.

In Europe the Euro Stoxx 50 index finished up 11.69 points, or 0.37%. Meanwhile, the FTSE 100 gained 0.74%, and Germany’s DAX closed up 7.56 points, or 0.07%.

In Asian markets, Japan’s Nikkei 225 is up 82.85 points, or 0.40%. China’s CSI 300 is up 1.43%.

In Australia, the S&P/ASX 200 is up 23.40 points, or 0.40%.

On the commodities markets, West Texas Intermediate crude oil is US$55.22 per barrel. Brent crude is US$62.69 per barrel.

Turning to gold, the yellow metal is trading for US$1,315.15 (AU$1,818.77) per troy ounce. Silver is US$15.97 (AU$22.08) per troy ounce.

One bitcoin is worth US$3418.65.

The Aussie dollar is worth 72.31 US cents.

Nowhere to hide

If you think the opposition’s call for a royal commission into banking was for the good of their fellow man, woman or child, then come over here. I have a bridge to sell you.

It was never anything more than a wedge. A play to the tiresome ‘big end of town’ jibes that the government has never quite been able to shake off.

But, beware what you sow. The opposition did such a job on the government with the whole inquiry business, that it could be coming into office just as the fallout from the commission really hits the fan.

Only last Friday, The Australian reported that according to Sam White, the Chairman of mortgage broker Loan Market, the decline rates for the big four banks was currently above 40%. That’s more than double the normal decline rate, which he estimates to be typically 15–20%.

There is no way for an external party to test the veracity of these numbers, as to the best of my knowledge, the banks don’t publish them. However, given that mortgage brokers generate roughly half of all bank loans, you would expect them to have a close up view of the market.

It doesn’t take an economics degree to know that if banks are too scared to lend, or only lend to those with established high net wealth, it doesn’t take long for the economy to splutter.

Even those with a decent deposit and steady employment are finding the banks won’t lend anywhere near the amount they would have, a year or two ago.

If they win office, one of the first big tests for the current opposition is if it has the ticker to stick to its proposed changes to negative gearing. It might choose instead to take some posthumous advice from Sir Humphrey (Appleby), and avoid making a ‘courageous’ decision. That is, defer the decision until some undesignated time. Or water it down, so as not to get too many people offside.

Given the cooling property market in the major cities, an incoming government might be hesitant to tamper with any changes. So strong was the reduction in interest-only loans last year, after the regulator APRA stepped in to apply a cap, that it dropped the restriction before the year was out.

Of course, there is no guarantee that the opposition will win. What is of more concern though, is that both the sides of the political divide are trying to outdo each other on who will most quickly implement Commissioner Hayne’s recommendations.

I’m not quite sure how you can endorse a recommendation before you have seen it. But so much are the big banks on the nose, that nobody, apart from the banks that is, will question it.

And that brings us back to the Commonwealth Bank’s results this Wednesday.

As I mentioned, the market is expecting a result in line, or slightly ahead, of last year. CBA shareholders will be especially keen to find out details about the upcoming dividend.

Unlike the other big banks, over the last few years CBA has been able to keep ratcheting its dividend higher. What shareholders will be clamouring to hear is if there are any special distributions coming their way from the sales of CBA businesses.

The banks already knew the writing was on the wall, so have been actively (or in the process of) offloading their wealth management and other businesses. Some of these proceeds could end up in the pockets of shareholders.

From today’s The Australian (quoting Citigroup analyst Brendan Sproules about CBA):

With divestments continuing, the prospect of capital ­returns via buyback/special dividend and a larger restructuring program could be the driver of outperformance.’

In other words, long-suffering CBA shareholders could actually gain from the commission fallout in the form of a special distribution, or from increasing earnings per share (EPS), if a buyback takes place. You can expect questions about dividends and special distributions to come thick and fast at CBA’s profit results on Wednesday.

The other thing the market will want to know is how CBA approaches the sticky question about mortgage brokers. Going from the interim report, the commissioner clearly didn’t think the current commission structure works best for the consumer.

As the biggest bank, CBA has enormous clout in the structure of third party lending. Only two weeks ago it appointed a new general manager of third party banking. Their job is to manage the relationship with brokers and other aggregator lenders. They could not have come to the job at a more critical time.

It could be that they simply move to a flat fee, rather than the current volume (and value-based) structure. With half of bank loans written through this third-party channel, any quick change could upend the market. You can expect plenty of lobbying going on behind the scenes.

While broker-sourced loans are currently so important to selling home loans, it could be that CBA, and other banks, eventually bring all their sales distribution back under their own control.

And that means that like the days of yore, we might all have to put on a suit and head off to the bank, and wait nervously outside the manager’s door.

All the best,

Matt Hibbard,
Editor, Options Trader