Australian Bank Earnings

Bank earnings – 3 key things investors need to watch out for

While general market sentiment and macroeconomic factors will always impact corporate earnings to a degree, when it comes to bank stocks there are generally three key performance areas that impact market sentiment more so than others.

1 - Earnings and margins

Besides cash flow, a company’s earnings are generally considered its most important metric. In Australia – bank earnings are typically broken down by statutory earnings, and cash or underlying earnings. Many consider underlying earnings to be the more important metric of the two, as it does not incorporate one-off items and therefore gives investors better insight into the actual or ‘underlying’ performance of the business.

Specific to banks, many also watch big four net interest margins or NIMs closely – as it measures the overall net interest income a company is generating from its credit products. With Australian banks carrying exposure to billions worth of residential mortgages and business loans, watching this metric closely remains a must. Ultimately, many Australian banks have seen their NIMs squeezed in recent years, as interest rates hover around historically low levels.

2 - Capital strength

After the global financial crisis in 2008, banks were required to hold greater levels of capital as a means of boosting their resiliency in times of crisis. As APRA explains:

‘Capital is a measure of the financial cushion available to an institution to absorb any unexpected losses it experiences in running its business. For a bank, such losses might include loans that default and are written off. Insurers might be hit by an unexpectedly high volume of claims in the wake of a major natural disaster.’

In a regulatory sense, for the big four banks to be considered ‘unquestionably strong’, APRA mandates that they have a capital position – measured in terms of the Common Equity Tier 1 ratio – at over 10.5%.

3 - Dividends

If earnings highlight the strength of a business, then dividends are the reward for that strength. Owing to their high payout ratios, Australian banks have attracted a loyal cohort of income-focused over the years.

While dividends are generally paid out as a percentage of earnings or cash flows, they can also be impacted by external factors, such as changes in the regulatory environment. In 2020, for example, APRA put a limit on how much Australian banks could pay out in the form of dividends; as a means of ensuring that the big four banks could adequately support individuals and businesses during the pandemic. Though that caused short-term alarm amongst many investors, and bank stocks were sold off heavily in response, banks such as CBA have returned to paying pre-covid dividends to investors.