EY releases its analysis of Australian major banks’ 2022 half year results

Tim Dring, Region Banking and Capital Markets Leader, Oceania at EY

Robust asset growth and quality, capital returns and careful expense management have all contributed to a solid performance from Aussie’s major banks in their 2022 half year results, although margins continue to constrain earnings according to analysis from Ernst & Young, Australia. The EY Australia report shows the big four banks delivered combined cash earnings of $14.4bn for the 2022 half year, an increase of 5.1% from the same time last year.

Asset quality also improved, with impairment risks moderating as businesses reopen, border restrictions ease and the local economy continues to recover. This positive outcome is tempered by the ongoing economic uncertainties, particularly inflationary pressures.

The increased level of high debt-to-income lending also sounds a note of warning, household balance sheets are in good shape, with many having built up buffers on their mortgages.

Other pressures remain, with net interest margins (NIM) declining across all the banks – (1.75%) – driven by a low interest rate environment and worsened by intense competition and a mix of fixed-rate mortgage loans. These headwinds look set to continue into the second half of the year, although the outlook is a little brighter in light of the cash rate rise.

What were the key insights of EY’s research?

Tim Dring, EY Region Banking and Capital Markets Leader, Oceania said: “While margin compression is likely to continue in the short term, the rising interest rate cycle should ease NIM pressures and lead to improved profitability for the banks over the medium term.”

“However, ongoing economic risks point to continued uncertainty for the banking sector’s outlook. Last week’s higher than expected rise in the official cash rate by the RBA, and future expected rises, offer top line revenue growth opportunities and earnings upside.”

“On the flip side, rate rises coupled with inflation could also put pressure on asset quality and slow credit growth, and mortgage competition may also reduce margin upside for the banks. In the current economic environment, the only real certainty for the sector is uncertainty.”

Lowering the cost base

“In the face of ongoing profitability pressures, managing margins will remain a key focus for banks for some time yet. The half year results show the banks have continued to execute well on their expense management initiatives, although costs remain elevated due to ongoing compliance, regulatory and technology programs, with the need for additional resources to meet loan demand and to address cybersecurity and financial crime risks,” Mr Dring said.

“Reducing the cost base remains a challenging task, given traditional operations silos, complex legacy systems and the need to respond to ever-evolving regulatory requirements.”

“This is contributing to the banks’ struggle to shift their operations with an integrated, holistic approach that leverages data and analytics to inform risk management and, perhaps most importantly, enable the banks to form a forward-looking view of risks and opportunities.”

Talent challenges remain

“Another major challenge for the banks at present is around acquiring and retaining talent, with shortages for critical in-demand skills such as data and engineering,” Mr Dring said.

“Employees increasingly want a job that offers meaning and purpose. Rather than the Great Resignation, we are observing something more akin to the Great Reshuffle, with employees choosing to move to more personally satisfying roles. So, in the war for talent, salaries aren’t the only factor. To remain attractive, banks will need to focus more on their people experience, with a clear business purpose and an engaging employee value proposition.”

Build-to-rent gaining traction

“With housing shortages looming across several states, institutional build-to-rent developments are starting to gain greater traction in Australia, with state governments implementing various schemes and incentives to attract investors,” Mr Dring said.

“Build-to-rent is a particularly attractive option for institutions, such as large superannuation funds and property investment companies, seeking reliable, steady returns,” added Mr Dring.

“While institutional build-to-rent will represent a small portion of the overall residential asset class, the sector will be dominated by platforms which will be a vital source of lending growth for all major banks. Financiers will need to better understand the dynamics in order to compete with overseas financial institutions that dominate the financing of these projects.”

Where to from here?

“Economic pressures point to continued uncertainty for the sector, despite the expectation of a rising cash rate that should help ease the pressure on margins and boost their profitability. This highlights that banks cannot afford to take their foot off the accelerator when it comes to their strategic cost management and operations transformation,” Mr Dring said.

“The banking sector is moving from an era of large multi-year transformation programmes, to one of building capabilities to manage continual change and create more sustainable, future-ready organisations. In this environment, following through on simplification, innovation and digitisation strategies will be key to the banks boosting their efficiency, improving customer experience and remaining competitive against disruptive new players.”