Why the Big Four Banks may suspend or reduce their dividends

Fitch downgrades

As uncertainty around the economic impact of the coronavirus pandemic escalates, Australia’s big four banks continue to come under pressure from investors, analysts and regulators.

In another blow to the banks, US-based ratings agency Fitch yesterday announced that it had downgraded the issuer default ratings of all the big four banks and their New Zealand subsidiaries – from ‘AA-/F1+’ to ‘A+/F1.’

This downgrade, said the ratings agency, was driven by the ‘expectations of a significant economic shock in 1H20 due to measures taken halt the spread of the coronavirus, followed by a moderate recovery through 2021.’

In broader terms, Fitch warned that as Australia’s economy enters an inevitable recovery phase, not only will some businesses likely fail to fully restart; but households may struggle to service their debt repayments which were (are) subject to ‘Covid-19 loan holidays’.

‘As a result, asset-quality metrics will likely weaken from current levels over the next 12-18 months and, for the four large Australian banks, we expect them to no longer be consistent with a ‘aa-‘ factor score,’ the ratings agency said.

ANZ, CBA, Westpac & NAB share prices: dividends under pressure

Complicating the outlook for the banks, in a letter addressed to Australia's authorised deposit taking institutions – APRA’s Chairman, Mr Wayne Byres – yesterday noted that due to the current climate, such institutions should be carefully considering their capital distribution plans.

‘APRA expects ADIs and insurers to limit discretionary capital distributions in the months ahead, to ensure that they instead use buffers and maintain capacity to continue to lend and underwrite insurance,’ Mr Byres wrote.

Such ‘limitations’ may include the ‘prudent reductions in dividends, taking into account the uncertain outlook for the operating environment and the need to preserve capacity to prioritise these critical activities.’

Where possible, Mr Byres elaborated that banks should aim to offset their dividend payments through the use of dividend reinvestment plans (DRP) and other capital management initiatives.

What are the banks to do?

In response to APRA’s letter; Macquarie analysts today said that the big four banks may be forced to either reduce or suspend their next wave of dividends completely.

Looking at a stressed scenario; Macquarie posits that bank losses could run as high as $25-27 billion – per bank. In this possible world, the banks’ ability ‘to pay dividends (without raising equity) materially diminishes,' it was noted.

If this kind of stressed scenario was also applied to the bank's dividend planning, Macquarie concludes that, save for CBA, the ‘banks are likely to choose to suspend their dividends and look to reinstate it (and possibly pay a special dividend) if conditions normalise. We estimate that CBA should still be able to sustain a reduced dividend in the stressed scenario.’

What such normalised conditions would look like however remains deeply uncertain at this point.

How to trade bank stocks

What do you make of these developments: are you bullish or bearish on the big four's prospects? Whatever your view, you can trade the likes of ANZ, CBA, Westpac and even NAB – long or short – using IG’s world-class trading platform now.

For example, to buy (long) or sell (short) ANZ using CFDs, follow these easy steps:

• Create an IG Trading Account or log in to your existing account
• Enter ‘ANZ’ in the search bar and select it
• Choose your position size
• Click on ‘buy’ or ‘sell’ in the deal ticket
• Confirm the trade