ASX Dips as Bank Stocks Fall: New APRA Rules

ASX Dips as Bank Stocks Fall: New APRA Rules

ASX Dips as Bank Stocks Fall

New APRA Rules to Strengthen Capital Framework

The Australian stock market closed slightly lower on Wednesday, falling by 0.04% to 6543.7 points. Gains in the mining industry were wiped out by losses in the big banks. On the other hand, the All Ords index gained 4.5 points to close the session at 6628.9 points.

Market performance down

Mining stocks fared well on Wednesday, with some of the top performers being Emeco (14.24%), Ausdrill (6.57%) and Saracen Minerals (6.44%). Major miners such as BHP Group, Rio Tinto and Fortescue Metal Group all saw gains as well. Market conditions continue to be positive for the major miners despite the ongoing trade war between the US and China. Emeco, for example, expected EBIT to reach $213 million by the end of the year, up almost 40% compared to the previous comparable period. The mining sector in general performed well, gaining 2.07% overall. Gains in the mining sector were similarly mirrored in  the IT, Comms Services, Consumer Staples, Utilities and Energy sectors.

However, these gains were wiped out due to dismal performance within financials and healthcare. Some of the worst stocks for the day included Cochlear (-2.26%) and CSL (-2.19%) from healthcares, and Challenger (-3.78%) from financials. The major banks were also hit hard, after the Australian Prudential Regulation Authority (APRA) released new capital guidelines on Wednesday.

New Capital Guidelines

Ever since the Royal Banking Commission, the banking industry has seen much change. In June 2019, APRA announced that it would be scrapping its 7% serviceability buffer, which was intended to ensure that borrowers could continue to service their debt in the event of a rise in interest rates. The buffer was deemed wholly unnecessary in the face of continued interest rate cuts by the RBA. APRA also announced reforms to the two-tiered risk weighting system, which had previously benefited bigger banks and penalised others.  

In its latest announcement, APRA has announced more changes to its capital weighting system that will see Authorised Deposit-taking Institutions (ADIs) holding more capital against specific types of loans. Under new guidelines banks will be penalised for issuing higher risk loans, with interest-only loans and loans to property investors being specifically targeted. APRA chairman Wayne Byres hopes to address structural concentration of mortgages within the banking system, and foster competition between big banks and second tier banks. These changes are not intended to change the calibration of existing models, and it is expected that banks who already comply with capital standards will not be required to raise more capital.

The new guidelines will build on APRA’s existing Common Equity Tier 1 benchmark of 10.5%, and encourage banks to write lower risk loans. APRA has already provided drafts to the updated APS112, APS113 and APS115 prudential guidelines, which will see a revision to capital requirements for residential mortgages, and management of credit and operational risk.  Reverse mortgages, loans to SMSFs and shared equity mortgages could attract an updated 100% risk weighting as the regulator attempts to discourage banks from writing riskier loans. Banks will be asked to revert back to the Basel III ruleset, and additionally apply a multiplier of 1.5 times to low risk loans and 2 times for higher risk loans. For smaller banks, APRA will introduce a sliding scale where low risk loans attract a weighting of 25%, while 95% will be applied to higher risk loans. APRA aims to fully implement the new guidelines by 2022.

Most banking stocks saw modest declines in the wake of APRA’s announcement. CBA dropped by 1.3% to $79.87, WBC by  0.9% to $28.04, ANZ by 1.4% to $28.26 and NAB by 0.8% to $27.01. Downward sentiment also impacted smaller lenders such as Macquarie Group, Bank of Queensland and Adelaide Bank. Despite this, the new changes have been hailed by the big banks as a win. A NAB spokeswoman said the bank was pleased to achieve more clarity around the framework. However, critics such as Mather Wilson of Deutsche Bank believe that the proposed changes do not do enough to bridge the gap between the big banks and second tier banks.

Future Outlook

The current market is stuck in the late cycle of a bull market. Portfolio manager Andrew Mitchell believes that, “the market is buying more cyclical stocks at the moment,” and that a good strategy is to, “own high quality companies that can continue to perform when conditions are tough.”

APRA’s new guidelines will not have much impact on the supply of credit in the housing market. Reverse mortgages and shared equity mortgages are considered to be niche, and the 2022 deadline is far off. The drafting process is still in progress, as APRA continues to source feedback from the public. Possible future revisions include standardisation of mortgage risk weights, recognition of additional types of collateral for SME lending and lower risk weights for credit cards and vehicle-secured loans.

By Oliver Ju

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