CM appeared on Sky News to discuss the situation with our banks, the potential risks from the recommendations of the Hayne Royal Commission and the issue of mortgage stress.
Don’t get CM wrong – this is still the law of small numbers. Westpac reported this week that it repossessed another 162 properties in the latest fiscal year. That is a 40% increase. While it is but a dribble compared to the 100,000s of total loans outstanding it is none-the-less a harbinger of things to come. Westpac made clear, “the main driver of the increase has been the softening economic conditions and low wages growth.”
The current status of 90-day+ delinquencies has been rising over time. As have 30-day +. While nothing alarming, the current economic backdrop should give absolutely no confidence that an improvement in conditions is around the corner. We are not at the beginning of the end, but at the end of the beginning.
Former President Ronald Reagan once said of the three phases of government, “if it moves, tax it. If it keeps moving regulate it. If it stops moving, subsidize it.” How is that relevant to the banks?
We have already had the government fold and attach a special bank tax on the Big 4. Phase 1 done. Now we are in the middle of phase 2 which is where knee-jerk responses to the Hayne Banking Royal Commission (HBRC) where banks will be on the hook for the loans they make. That is a recipe for disaster that could bring on phase 3 – bailouts.
Sound extreme? How is a bank supposed to make a proper risk assessment of a customer’s employability in years to come? Can they predict with any degree of accuracy on the stability of candidates who come for loans? The only outcome is to cut the loan amount to such conservative levels that the underlying purpose gets diluted in the process and prospective home buyers have to lower expectations. Not many banks will look positively at taking several loans on the same property with different institutions. That won’t work. SO loan growth will shrink, putting pressure on the property market.
What is the flip side? Given property prices in Sydney hover at 13x income (by the way, Tokyo Metro was 15x income at the peak of its property bubble), restrictions on further lending against loan books that are on average 63% stuffed with mortgages (Japan was 41.2% at the peak) won’t be helpful. A property slowdown is the last thing mortgage holders and banks need.
While equity continues to rise at Aussie banks, the equity to outstanding mortgages has gone down since 2007 i.e. leverage is up. If banks saw their average property portfolios drop by more than 20% many would be staring at a negative equity scenario. Yet, it won’t be just mortgage owners that we need to worry about. Business loans could well go pear-shaped as the onset of higher unemployment could see a sharp increase in delinquencies through a business slowdown. A concertina effect occurs. More people lose their job and a vicious circle ensues. It isn’t rocket science.
Of course, Australia possesses the ‘boy who cried wolf‘ mentality over the housing market. Yet it is exactly this type of complacency that paves a dangerous path to poor policy prescriptions.
In Japan’s property bubble aftermath, 40% of the value of loans went bang. 17% of GDP. $1.1 trillion went up in smoke. It took more than 10 years to clean up the mess and the aftershocks remain. Accounting trickery around the real value of loans on the balance sheet can hide the problems for a period but revenue tends to unravel such tales. 181 banks and building societies went bust. The rest were forced into mergers, received bailouts or were nationalised. Now the Japanese government is a perpetual debt slave, having to raise $400bn per annum in debt just to fill the portion of the $1 trillion budget that tax collections can’t fill.
The problem Japan’s banks faced was simple. If a neighbour’s $2m home was repossessed through mortgage stress and the bank fire sold it for $1.4m, the bank needed to mark to market the value of the loan portfolio for that area by similar amounts. In doing so, a once healthy balance sheet started to look anything but. Extrapolate that across multiple suburbs and things look nauseating quickly.
This is where Aussie banks are headed. This time there is no China to save us like in 2009. Unemployment rates in Australia never went above 6% after the GFC in 2008/9, unlike the US which went to 10%. We weathered that storm thanks to a monster surplus left by the Howard government, which we no longer have.
Sadly China has had 18 months of consecutive double-digit car sales decline. Two regional Chinese banks have folded in the last 3-4 months. China isn’t a saviour.
Nor is the US. While the S&P500 might celebrate new highs, aggregate corporate profitability hasn’t risen since 2012. The market has been fuelled by debt-driven buybacks. We now have 50% of US corporates rated BBB because of the distortions created by crazed central bank monetary policy, up from 30%. Parker Hannifin’s latest order book shows that customer activity is falling at a faster pace.
Nor is Europe. German industrial production is at 10-year lows. The prospects for any EU recovery is looking glib. Risk mispricing is insane with Greek bond spreads only 1.8% higher than German bunds.
What this means is that 28 years of unfettered economic growth in Australia is coming to an end and the excesses built in an economy that believes its own BS is going to leave a lot of people naked when the tide goes out.
The Australian government needs to focus on more deregulation, tax and structural reforms. Our record-high energy prices, ridiculous labour costs and overbearing red-tape are absolutely none of the ingredients that will help us in a downturn. We need to be competitive and we simply aren’t. Virtue signalling won’t help voters when the whole edifice crumbles.
All a low-interest rate environment has done is pull forward consumption. It seems the RBA only possesses a hammer in the tool kit which is why it treats everything as a nail. It is time to come to terms with the fact that further cuts to the official cash rate and the prospect of QE will do nothing to ward off the inevitable.
Pain is coming, but the prospects of an orderly exit are so far off the mark they are in another postcode. Roll your eyes at the stress tests. Stress tests are put together on the presumption that all of the stars align. Sadly, in times of panic, human nature causes knee-jerk responses which put even more pressure.
The Aussie banks have passed their best period. While short term news flow, such as a China trade deal, might give a short term boost, the structural time bomb sits on the balance sheet and while we may not get a carbon copy of the Japanese crisis, our Big 4 should start to look far more like the rest of the global banks – truly sick. The HBRC will see that it becomes way worse than it ever needed to be.
For a Conservative party to push a subsidy of up to 20% of the value of a property for first time home buyers shows how bereft of policy it is. When Vic Premier Daniel Andrews raised a similar plan in March 2017 CM trashed it.
Think about it. Home prices have started to fall in major capitals because of a lack of demand thanks to astronomical prices and tapped out borrowers. This is before the Royal Commission puts the brakes on lending.
Why provide a subsidy to first home buyers toward the top of a bubble? It is not the role of the taxpayer to subsidize nor insure the downside risk in the event of the owner going into negative equity. What happened to free market economics?
What will this 20% subsidy do? If a couple go house hunting with a budget of $800,000, they will be able to shoot for a $1mn property. It might end up being the same property, pushed up by the desperate buyer thanks to the subsidy creating a false sense of security. So the reality is the taxpayer and the homeowner may end up in the red the day they move in. What a policy!!
Has ScoMo just called the top of the property market?
Since when did the Australian Prudential Regulatory Authority (APRA) become an axe on climate change? Next thing we will see is 16yo Greta Thunberg, of school climate strike fame, adorning APRA releases and annual reports. APRA should stay in its lane as the only disaster on the horizon will be self inflicted.
In the AFR today, it was reported that the financial services sector regulator said, “there is no excuse for inaction on climate change, warning there is a high degree of certainty that financial risks will materialize as a result of a warming climate.”
APRA noted that only 1 in 5 companies are meeting voluntary climate risk disclosure targets which are set out by the Task Force in Climate-related Financial Disclosures, a private sector body chaired by none other than global warming alarmist Michael Bloomberg.
What in the world is APRA doing trying to implement guidelines put forward by a body backed by an agenda? Has APRA considered the wealth of literature debunking global warming? The plethora of scandals that have befallen the UNIPCC, NOAA and even our own Bureau of Meteorology! Has it considered the dozens of dud predictions made by the IPCC? The UN climate science body has publicly climbed down from so many alarmist claims, citing no evidence or extremely low confidence. Can APRA put hrs numbers on what global warming might do?
To be honest, APRA should stay in its lane. It follows on from the lunacy spread by the Reserve Bank of Australia (RBA) on the same topic. The only “high degree of financial risk” will come from their own terrible stewardship of the financial sector.
As CM wrote late last year Australian banks are in a terrible position financially. CM believes there is a high risk that some of Australia’s major banks will end up all or part nationalized when the property market bursts. To quote some excerpts:
“In the late 1980s at the peak of the property bubble, the Imperial Palace in Tokyo was worth the equivalent to the entire state of California. Greater Tokyo was worth more than the whole United States. The Japanese used to joke that they had bought up so much of Hawaii that it had effectively become the 48th prefecture of Japan. Japanese nationwide property prices quadrupled in the space of a decade. At the height of the frenzy, Japanese real estate related lending comprised around 41.2% (A$2.5 trillion) of all loans outstanding. N.B. Australian bank mortgage loan books have swelled to 63% (A$1.7 trillion) of total loans…
…From the peak in 1991/2 property prices over the next two decades fell 75-80%. Banks were decimated.
In the following two decades, 181 Japanese banks, trust banks and credit unions went bust and the rest were either injected with public funds, forced into mergers or nationalized. The unravelling of asset prices was swift and sudden but the process to deal with it took decades because banks were reluctant to repossess properties for fear of having to mark the other properties (assets) on their balance sheets to current market values. Paying mere fractions of the loan were enough to justify not calling the debt bad. If banks were forced to reflect the truth of their financial health rather than use accounting trickery to keep the loans valued at the inflated levels the loans were made against they would quickly become insolvent. By the end of the crisis, disposal of non-performing loans (NPLs) among all financial institutions exceeded 90 trillion yen (A$1.1 trillion), or 17% of Japanese GDP at the time.
…In 2018, Australia’s GDP is likely to be around A$1.75 trillion. Our total lending by the banks is approximately $2.64 trillion which is 150% of GDP. At the height of the Japanese bubble, total bank lending as a whole only reached 106%. Mortgages alone in Australia are near as makes no difference 100% of GDP...
…In Westpac’s full-year 2018 balance sheet, the company claims around A$710 billion in assets as “loans”. Of that amount, according to the latest APRA data, A$411 billion of lending is ‘real estate’ related. Total equity for the bank is A$64.6 billion. So equity as a percentage of property loans is just shy of 16%. If Australia had a nationwide property collapse (we have not had one for three decades) then it is possible that the banks would face significant headwinds.
What that basically says is if Westpac suffered a 16% decline in the value of its entire property loan book then it would at least on paper appear in negative equity, or liabilities would be larger than assets. Recall in 2009 that BoA had over 16% of its residential loan portfolio which went bad.“
We ought to be extremely worried if our financial regulators are devoting any time to this utter nonsense. It is highly doubtful that APRA could gain any meaningful insights on climate change even if there was 100% compliance with Bloomberg’s diocese. Utterly embarrassing.
Aussie bank mortgage lending continues to reach ever dizzier heights. What is probably lost on many is that Westpac & CommBank have outstanding mortgage loans extended to as many Aussies as the colossal Bank of America (BoA) is lending to Americans.
Shareholder equity as a % of real estate loans looks like this. Note how post GFC the US banks have shored up the balance sheet to avoid a repeat of the disastrous contagion when Lehmans collapsed. Note Citi, BoA and Wells Fargo each took $20-45 billion in TARP to prevent a collapse.
Westpac & CommBank have shareholder equity vs R/E loans of 16%. That means if the aggregate loan value get smacked by 16% or more via defaults or a sharp slowdown then these banks would be in negative equity. Extreme?
In 2009 the Global Financial Crisis (GFC) had turned over 16% of BoA’s residential mortgage portfolio into either NPLs, mortgage payments over 90-day in arrears or impaired (largely from the shonky lending practices of Countrywide (which BoA bought in 2008). Countrywide’s $2.5bn acquisition price turned out to cost BoA shareholders a further $50bn by the end of the clean-up. Who is counting?
In 2018, Australia’s GDP is likely to be around A$1.75 trillion. Our total lending by the banks is approximately $2.64 trillion which is 150% of GDP. At the height of the Japanese bubble, total bank lending as a whole only reached 106%. Mortgages alone in Australia are near as makes no difference 100% of GDP.
Japan ended up wiping out Y90 trillion ($A1.1 trillion) or 17% of its GDP at the time. The only thing that springs to mind with the Aussie banks is complacency and the RBA minutes today only reinforced that view. At least 3 years behind the curve. Yes of course people will lob stress tests as a reason not to worry (we were told in 2007 that everything would be fine until the whole edifice collapsed) but CM doesn’t buy it for a second.
Aussie banks are still beholden to global wholesale markets. In a world where rates are rising overseas and companies like GE are facing a massive wall of higher funding costs due to credit downgrades, risk is about to be priced properly. The Aussie dollar is likely to be hit too.
A recent ME Bank survey in Australia found only 46 per cent of households were able to save each month. Just 32 per cent could raise $3000 in an emergency and 50 per cent aren’t confident of meeting their obligations if unemployed for three months.
The Weekend AFR reported that according to Digital Finance Analytics, “there are around 650,000 households in Australia experiencing some form of mortgage stress. If rates were to rise 150 basis points the number of Australians in mortgage stress would rise to approximately 930,000 and if rates rose 300 basis points the number would rise to 1.1 million – or more than a third of all mortgages. A 300 basis point rise would take the cash rate to 4.5 per cent, still lower than the 4.75 per cent for most of 2011.”
Do you know how many homes NAB has under repossession on its books at the latest filing? Around 300.
Laid up in bed this week with the flu I watched The Hunt for Red October where Sean Connery plays a Russian sub commander with a thick Scottish accent. To rendezvous with the CIA to complete the defection they head to the deep waters of the Laurentian Abyssal, ironically the name of the Canadian bank which has seen the proverbial torpedo hit the propellor.
It seems that Laurentian Bank in Canada has been caught over mortgage fraud, the second lender to do so. Canada’s property prices have trebled since 2000, seeing but a minor blip during GFC. Zerohedge noted,
An audit “identified documentation issues and client misrepresentations” with some mortgages…Laurentian said it will repurchase about C$89 million ($70 million) of those mortgages in the first quarter, or 4.9 percent of such loans sold to the firm….It will buy back an additional C$91 million of mortgages “inadvertently” sold to the firm, also in the first quarter.
The total value of the loans made to the 3rd party was around $1.16bn. Of course the CEO of Laurentian Bank is brushing aside the scale of it.
As we know Home Capital Group, Canada’s largest mortgage lender was busted for mortgage fraud and required a $1.5bn bailout facilitated by the 321,000 Healthcare of Ontario Pension Plan (HOOPP) members. Not to worry those emergency loans are backed by the mortgages!! Naturally “safe as houses”
Perhaps in the immortal words of Red October Captain Ramius, “be careful what you shoot at in here…things inside here don’t react well to bullets”
Or perhaps in the words of Canadian born Inspector Frank Drebbin, “nothing to see here!”
Queensland’s state election said it all. Both the incumbent parties lost massively even though the incumbent Labor Party looks like holding on to power. While Pauline Hanson’s One Nation party looks like it fared poorly in terms of seats it still got 13.8% of the vote from 1% in 2015. Forget the headline results but think of what the political turmoil In local, state and federal levels is telling us more broadly.
Think logically about it all. If the economy is booming, jobs are abundant and prosperity is on the march then there is little need for governments to be running deep deficits let alone facing hung parliaments and acts of desperation. Surely the incumbent governments of the day can laud their own achievements and their constituents would happily keep returning the status quo. The majority should continue to be happy. More by rights should be winners in such a world of record housing prices, steady wage growth, low unemployment and 25 years of economic growth as experienced in Australia.
Yet PM Turnbull turned on many of the traditional supporters of the conservative wing of his Liberal National Party (LNP) coalition who turned their back on him to hand Labor the victory in Queensland. Not so fast Prime Minister. They didn’t leave the party. The party under your incompetent stewardship left them. At all levels the LNP is divided. There are some quarters suggesting that the Nats may split from the Coalition in the next election in Queensland to leave the stench of the Liberal Party to themselves. This is when personal ambition trumps wish to serve a nation.
While the LNP was handed the most valuable and recent lesson of the disaster that was the Rudd-Gillard-Rudd internal factional knifing during their time in power, it completely buried its judgement and started following a left leaning press, weak poll numbers and copied Labor’s folly. Now we have a hung parliament (not withstanding the dual citizenship fiasco) with chronically weak and misguided leadership. One that tells voters that they have no clue rather than introspection that the party may indeed be the problem.
It used to be said that Australia enjoyed the most stable politics in the Asia Pacific region. That encouraged foreign investment and gave Australia low interest rates, a superior credit rating and a regulatory platform that ensured trust (important for corporations), the envy of many nations. Yet inside a decade we have had 5 (soon to be 6) prime ministers which has thrown that ‘reputation’ in the toilet. In a world where international capital is more mobile than ever and asset prices are peaking, instability in government eventually carries severe financial market penalties.
For Aussie banks, levered up to the gills with inflated mortgage books on their balance sheets, such things have negative implications for the 40% reliance on global wholesale credit markets to fund themselves in the face of a tightening US interest rate cycle. Do not underestimate the negative connotations of a federal government that has lost its way, no matter which major party is in power. Where the average Aussie can’t bear anymore on the mortgage, a third admitting they can’t pay the home loan if they lose their job for 3 months or more. Almost 1,000,000 Aussie households would be in severe mortgage stress if rates moved 150bps(1.5%). Think of the spill-over effects on consumption which would only lead to a recession and lay offs, exacerbating a cycle, all the while bashing the currency making international funding even more biting. If only we had a stable government that had a decent fiscal position to weather that storm. Oh, that is right we squandered that in 2008.
One Nation in Australia, AfD in Germany, Party for Freedom in The Netherlands, Front National in France, 5 -Star Movement in Italy, Fidesz in Hungary, FPO in Austria, the Sweden Democrats, Vlaams Belang in Belgium, Progress Party in Norway, Trump, Brexit…these patterns aren’t random. It isn’t just populism but protest votes to establishment parties that aren’t delivering. While we are constantly told how great our lot is, sadly the gap between haves and have nots is widening globally. Politicians who are ditching political correctness and making waves on publicly uncomfortable issues are thriving. Why could that be?
Donkey (informal) votes in Australia have seen numbers soar from 2.2% in the 1950s to over 5.0% in the 2016 election. Some electorates in NSW saw as high as 14% informal votes. These are powerful messages in a country that has compulsory voting, which has slid to 90.9%.
The sad reality is that the electorate is making louder noises every election that things are not pointing in the right direction yet the muppets are still being returned to their box seats on a dwindling majority. Why? Because not enough voters are heeding the warning signs that are sounding in front of them. Of course politicians still continue to sell comforting lies backed by ever more unaffordable promises to keep themselves in power for as long as possible when we all need to be facing the unpleasant truths that will happen whether we like it or not.
Indeed those deplorables who voted One Nation might have spurned the LNP but not without good reason. In time, they will be viewed as the wiser ones. Not because they necessarily believe in Pauline Hanson’s platform but because they believe in Turnbull and Shorten’s even less. It all rings like a Premier League football coach making a litany of excuses for his team’s woeful performance that ignores the fact that the collection of individuals have absolutely no cohesion as a team. All the fans can do is bury their heads in their hands until the point they can’t bear to watch another game until the coach is sacked.
Premier Daniel Andrews is launching a program to help first home buyers get on the property ladder in Victoria, the fourth most expensive property market in the world. The scheme, starting on July 1, is expected to benefit first home buyers save $15,535 stamp duty on a $600,000 property. Tax discounts for homes valued between $600,000 and $750,000 will be applied on a sliding scale.
There is only one reason why I think this is a flawed program. Encouraging people to climb onto an already inflated property ladder may end up costing them way more than $15,535 in lost equity. If Premier Andrews had a better command of economics, he’d know that in Melbourne prices are around 10x income which is higher than just before the GFC at 6.5x. In Sydney housing prices are 12x income. In 2007 they were 7x income. This is simply unsustainable.
As I wrote yesterday, the extent of people who are in mortgage stress (30% or more of salary on mortgage) or ‘severe stress’ (missed a mortgage payment) is shockingly bad. Victoria has 25% of its mortgage borrowers in this position. Given first home buyers are likely to be at the lower end of the income generation spectrum, one would imagine encouraging them to buy in toward the top of a bubble seems misguided. By Digital Finance Analytics own study, if rates increased 3%, Victoria would rank 3rd worst state for stress/severe stress at 42.5%, 16% 0f which would be severe. We already have examples of property markets going wrong in Australia.
Take the mining town of Gladstone. In the last three years housing prices have plummeted 52%. Over 10% of the property is up for sale not to reap a nice return but cut losses. It is a completely different dynamic. Average rental prices per week have dropped from $320/week to $150/week as mining activity leaves high vacancy rates. Real estate agents there have been talking up the market saying panic wouldn’t ensue if landlords weren’t flicking the chicken switch. Talk about defending a lost cause.
Or should we just thank Daniel Andrews for picking the top of the property market in Victoria? Perhaps letting natural market forces come to play will mean first home buyers who save up, be patient and wait to enter at more affordable prices after a sizable correction may will be only too happy to pay stamp duty on a substantially discounted house.