Having gained an average of 120% since their pandemic-era lows, the big four Australian banks are looking expensive. As a group, they’re now trading on a 12-month forward price-to-earnings (PE) multiple of 16 times, compared to a historical fair value of 12 times.
However, not everyone believes bank shares are overpriced.
UBS analyst John Storey said: “Australian banks are seen as very expensive, but clients see few catalysts on the horizon that could fundamentally de-rate these stocks from here, outside of valuation.”
The Commonwealth Bank of Australia (CBA) is now the 13th largest bank in the world, with a market cap of US$143 billion. This positions CBA as 16 times larger than Citigroup and only 5% smaller than Goldman Sachs (NYSE:GS). Given its strong performance over the decades, many long-term investors are hesitant to sell their holdings due to potential capital gains taxes and favourable net interest margins.
UBS met with 60 domestic and international clients, where the high valuations of Australian banks were a common topic. Clients were particularly interested in understanding the reasons behind the banks' strong performance and their implications for investment portfolios. The S&P/ASX 200 banks index rose 15% in the calendar year to June 30, compared to a 2.3% increase for the S&P/ASX 200.
A growing question among investors is whether Australian banks are becoming akin to utilities due to the commoditisation of their business models. Storey highlighted that the rise in mortgage broker penetration, now at 73%, is contributing to this trend. As a result, banks' internal rates of return have decreased by over 10 percentage points.
Macquarie's market share gains have disrupted the traditional banking landscape, with ANZ and Westpac also growing above the system average. CBA is responding by shifting away from third-party distribution to enhance its digital capabilities and proprietary channels.
Storey expressed concerns about the sustainability of current valuations, noting that interim results, while slightly better than expected, did not justify the share price increases. UBS forecasts a 5% decline in cash earnings for FY24 and has rated all Australian banks as "sell" except for ANZ and Macquarie, which are rated "neutral."
Compared to banks in Sweden, Spain, and Canada, Australian banks do not appear overly expensive. However, their profitability remains closely tied to economic activity, with 80% of revenue coming from net interest income.