Commonwealth Bank of Australia CEO Ian M. Narev sounded a worried note in an earnings call Wednesday, and there was an echo from Reserve Bank of Australia Governor Glenn Stevens on Friday. With good reason: This week's jolt to banking risk across the globe could hurt the nation's largest lenders, whose total bonds outstanding swelled to a record in September.
It's not just that Australia's banks have more traded debt than ever. For every dollar they have lent, they borrowed 31 cents, the highest ratio since 2010. To change that, they either stop borrowing, or lending, or both -- not good outcomes for the economy.
Australia's four biggest banks had more than A$500 billion ($355 billion) of long-term borrowings at Sept. 30, according to the Australian Prudential Regulatory Authority, three times more than what they owed a decade ago. Another A$227 billion is payable by the end of this year's third quarter.
That is not necessarily a bad thing. Deposit growth has been negative at times, and lending has far outpaced the speed at which Australians save. So the only way banks can keep lending, growing and generating profits is to borrow from global investors. And better if they do so with debt that is due in several years, such as bonds.
The danger is that the big four -- Australia and New Zealand Banking Group, Commonwealth Bank of Australia, National Australia Bank and Westpac Banking Corp. -- are as vulnerable to bad banking news across the world as they are to bad news at home. And it looks like more bad news is lurking everywhere.
Fitch Ratings this week said it expects the credit cycle in Australia to turn. Mortgage rates rose in July for the first time since February 2012. Miners, an important part of the nation's economy, are having trouble making ends meet as iron ore and coal hit the lowest prices since the global financial crisis.
On top of that, the new International Financial Reporting Standard 9, to be rolled out in 2018, will change the way lenders recognize troubled loans. According to Xuanlai He, a Singapore-based Commerzbank strategist , that could cause non-performing assets at Australian banks to rise by one-third. To be sure, they're starting from a low base, as only 0.78 percent of advances were past due or impaired in September. With troubles at home compounding, however, that number is likely to have risen by the time the new accounting rule kicks in.
Commonwealth Bank of Australia is getting a taste of this. While its exposure to commodities is only 1.8 percent of total loans, according to its half-yearly report released on Wednesday, the expenses from impaired loans at its institutional banking and markets unit -- the one that lends to large corporations such as miners -- doubled.
Bad news on commodities and mortgages could affect the cost of selling bonds for Australian banks. If investors remain as jittery about the financial industry as they were this week, that could become a serious issue. The past seven weeks of market volatility, topped by Monday's tantrum around Deutsche Bank, has already triggered the biggest increase in credit-default swaps, a key measure of funding costs, since 2012 for the big four Australians.
Higher costs of funds and souring loans reduce profits. One of the ways to sidestep that problem is to reduce provisions. The amount the big four set aside as a percentage of past due and impaired loans has already dropped to the lowest in five years, however. Much lower, and the banks might hear from regulators.
As Fitch noted, Australia's banks continue to be well capitalized and healthy. But good health doesn't insure against contagion. It looks like time for Australian banks to reduce their dependence on global debt markets, even if that means lending less.
This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
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