Australia and New Zealand Banking Group Solid and Defensive Name Amid Allegations of Market Manipulation

14 March 2016

Credit Brief

Key Credit Highlights                                                                     

¨      Earnings growth was largely flat due to high operating costs and a drop in margins (chart 1); but may face downward pressure given macroeconomic and monetary policy risks. Net profit only grew by 3% YoY despite the 6% growth of net interest income which was offset by the larger increase in impairment charges and operating expenses by 8% due to FX translation, higher remunerations and depreciation/amortisation. Furthermore, Reserve Bank of Australia (RBA) interest cuts and moderating loan growth to 9% in 2015 (vs 11% in 2014) have weighed on ANZ’s NIM as it dropped by 9bps to 2.04%. Moving forward, the potential slowdown in China may weigh on Australia’s economy given the latter’s c.35% exports to China which may prompt RBA to ease by another 25bps to 1.75% in 2016. The potential correction in home prices may hamper its growth given its huge reliance on mortgages which constitute 53% of its loan book (chart 2) though we note that it is the lowest among the four largest banks.

¨      Adequate capitalization but lower than Big-4 average. ANZ’s CET1 and CAR improved slightly to 9.6% and 13.3% from last year’s 8.8% and 12.7% respectively (chart 3). Its capitalization level together with Westpac is the lowest, trailing behind the Big-4 average of 9.9% and 13.7%. We expect ANZ to take advantage of its good access to capital markets with further issuances to boost its capital base this year.

¨      Solid asset quality as evident by the persistent decrease in NPL ratio from FY9/12’s 1.13% and FY9/14’s 0.55% to 0.47% in FY9/15 (chart 4). We derive comfort from its growing loan loss coverage of 148%, while 82.8% of ANZ’s financial assets are in the investment grade or secured category.

¨      High systemic support assumption; but cautious on change in resolution regime. The Big-4 banks comprise of 80% market share of deposits and loans; hence, we expect support to crystalize when needed. However, APRA has indicated its intention to deliberate on TLAC for its D-SIBS this year and with that, our assumption of government support may be moderated should changes in Australia’s resolution regime imply a higher level of burden sharing with creditors.

¨      Wholesale funding reliance is an area of concern; but its liquidity position provides a good buffer whereby 32% of the group’s funding consist of wholesale funding. Furthermore, the proportion of short-term funding has increased marginally from 27% in FY9/15 to 29%. Nevertheless, we take comfort of the improved Liquidity Coverage Ratio (LCR) from 111% to 122% in FY9/15 and more than the minimum LCR of 100% as set forth by APRA.

¨      Potential litigation issues from alleged interest rate manipulation. On 4 March 2016, the Australian Securities & Investments Commission (ASIC) announced that it is taking legal action against ANZ over alleged manipulation of the Bank Bill Swap Rate (BBSW). Fines of up to AUD1m for each contravention of rules could be imposed during the 44-day period under scrutiny which may impact its profitability and reputation if found guilty.