The only reason bank shares are rising

Here’s an absolute beauty from The Age:

Here are 11 reasons fund managers have given us about why they see more upside in bank shares:

1. Short term earnings are improving

2. Robust housing market

3. Moderate top line growth

4. Opportunities for cost cut

5. Earnings pressure in other sectors

6. Interest rates are low encouraging participation into equities

7. High fund manager cash levels

8. Self-managed super funds are way overweight in cash

9. High fully franked dividends

10. High valuation offset by market reaction

11. Offshore hedge funds are short selling bank shares – and they rarely get it right

What a spectacular array of poppycock! There is only one reason that bank shares are rising (and valuations are reaching extreme levels) and that is financial repression. As the RBA takes the real interest rate below zero, anything with a yield will skyrocket in value. It’s really that simple.

As well, if you reckon that real interest rates are going to stay negative, and the environment in the which the asset trades is relatively benign, the overvaluation is perfectly rational.

However, if the two assumptions don’t hold then you’ve got yourself a bubble.

Any hedge fund currently shorting Australian banks is wrong to do so, they’re too early. That trade is probably 12-18 months away yet. When it comes, boy, is it gonna shake the earth.

Comments

  1. “As the RBA takes the real interest rate below zero, anything with a yield will skyrocket in value. It’s really that simple.”

    If the economy is as in the tank as you say it is, then interest rates are going to the floor and will stay there for years. Good luck timing your shorts.

    • I told anyone that was listening to go long banks in 2012 if they wanted housing exposure. Better than the houses given the shares are more liquid. Even published it at Sydney Morning Domain.

      I recently argued another up leg was likely for banks as rates were cut.

      I’ve not told anyone to go short the banks in the past five years.

      But that trade is coming and when it gets here it will be very, very profitable. Your stopped clock, on the other hand, will be crushed under a Mack truck.

      • It is.

        But in ACME’s limited world of houses, houses, houses, it is better because it is liquid. You can get out quickly if need be.

        I’m not saying buy banks, shit no.

        Non-resource dollar-exposed industrials are the play all day, every day.

      • which of you guys coined the phrase ” inflation in everything you need, deflation in everything you own” ?

        Welcome to the declining business cycle. The line of thinking that central banks can over-ride a business cycle makes me laugh heartily !

      • Bank stocks?! For muppets maybe.

        A well chosen IP portfolio purchased between 5 – 15 years ago at 80% LVRs worth $3M today is now increasing in value at a rate of $15k/mth as a minimum. This wont be changing anytime soon.

        PI’s are driving the Mack truck and they will for several more years to come.

      • Very amusing, You’re running a hot money portfolio in an illiquid portfolio and don’t even understand the risk.

        I suggest you deleverage with a swiftness you’ve not felt since that debutante fear trickled down your leg when Daddy pulled the belt from his trouser for the first time!

      • debutante fear trickled down your leg when Daddy pulled the belt from his trouser for the first time!

        Bwaaahaaahaahaa

      • I already subscribe and will be continually looking out for your short call on the banks HnH. Please remember to write a really nice big subscriber paid only article on it 🙂

      • And then what?

        Throw a dollar on bank stocks at the casino?

        No way near as safe for an ungeared crap return, if Im lucky.

        Gimme a break. I dont gamble anyway..

    • Interest rates are increasingly irrelevant, We have a credit based speculative economy now like the rest of the world has had for a few years.

      All that matters is the volume of spending, the amount of credit which can be extended is infinite. Balance sheets and accounting standards mean nothing any more.

      As private people are forced to cut back spending the gov. will ramp up spending, you haven’t seen anything like the gov. deficits that are ahead. The banks will be in trouble when gov. spending has to drop, think 1960’s credit squeeze x10

      Learn to trade FX that is where the action will be.

      • Nyleta and Mig

        Extract from the ABC
        Over a hundred Australian foreign exchange traders fight to avoid millions in losses
        The words ‘Foreign Exchange’ on the side of a building in Brisbane
        Here in Australia – and around the world – foreign exchange firms are selling the dream of instant riches. It is a booming trade which has doubled in size since 2007, and is now turning over $380 million a day.
        But for hundreds of Australia’s 51,000 mum and dad retail forex traders, that dream has turned into a nightmare.

        more than 100 retail foreign exchange traders in Australia – often small investors who dabble in the forex market in their spare time – have suffered massive losses on their trading accounts.
        Several are in the hundreds of thousands of dollars and, in at least two cases, those losses have climbed above $1 million.
        Now, some of them are being chased by their foreign exchange brokers to pay out those losses.

        “If I were to pay for the negative balance, it would mean the potential loss of my home, possible break up of my family,” said one FXCM client, a foreign currency trader who has asked for legal reasons that his identity not be revealed.
        “It has cost a tremendous amount of emotional pressure for me and my wife, and we are extremely worried about our kids’ future.”

        FXCM has confirmed that 115 of its 16,000 Australian clients had a negative balance as a result of the Swiss franc event.

      • HnH ……you might know nyleta better than me.
        As opined by pfh what if the whole world is going at it? Deficits to infinity! Credit to infinity! I’d have thought that is what we are looking at then we call in the dictators and have a few wars – or one really good one!

        Edit: I dunno! My brain has stopped working! Trying to keep all these spinning loops in your head is damned tiring!

      • @ Flawse I wasn’t saying I thought it was a good thing, I just don’t believe Australia can afford to acknowledge reality going forward.

        We will soon see if the Greeks can show us what happens when reality hits or they are absorbed by the warmth of the ECB debt pile.

  2. Hedge funds shorts on banks have been played for about 5 years and left them nothing with red faces.This time, though, your timing is much closer.

    • Frederic Bastiat

      In terms of bank shorts, I got stung in 2009 and again early this year. On both occasions I lost my outlay on put options…no biggie, but frustrating

      On both occasions, I was betting not on the market fundamentals – which are clear as day – the banks are ticking time bombs, but rather I thought that the market-rigging central banks and the corrupt Australian Government may have come to its senses…and the deflation would be allowed.

      I thought that there was a shred of integrity and honesty left in this nation.

      But with Scotty Cam now back on Prime Time, Glenn Stevens dropping rates to emergency lows and APRA doing sweet FA about lending standards…its clear this bubble will be blown until the bitter end.

      I think that could be any time from tomorrow (Grexit triggers a world wide credit spasm and bond meltdown) or in five years time (when financial repression runs its course and the people wake up to the theft that is occuring).

      Either way, I actually believe now that there will be a small opportunity to get your action on after it is clear the crash is upon us and before the price moves against you.

      Otherwise, if I miss the chance to profit from the housing crash, I will be content not having any investments in the banks or property.

  3. I think the assumption that real interest rate will remain negative in the foreseeable future is reasonable. The second assumption is where the risk lies with banks and their mortgage geared lending model.

    Whilst I agree that H&H’s negativity is rational, I’ve given up on rational in the aftermath the GFC and the central banks response.

      • Timing is everything. I have a friend who first warned me of the unsustainable ponzi-like growth model of our economy way back in 1993.

    • “Whilst I agree that H&H’s negativity is rational, I’ve given up on rational in the aftermath the GFC and the central banks response.”

      Let’s be clear , Australia rode over the GFC because of the massive stimulus response from China , the fact that we were lucky enough to hold a number of resources they required, and the relative sizes difference between our populations .

      If you think that response is likely again , then yes H&H will be proven wrong , if you don’t , and all evidence suggests that we will not , then reality is about to catch up

      • Yes, but when it collapses it’s not just the last few years of growth we backtrack – rather it’s the last few decades. Governments and central banks will therefore do anything to try to stop this inevitable reversal.

      • “the fact that we were lucky enough to hold a number of resources they required,”

        Especially the fact that we were willing to sell not only the mining production but also the mines!
        Most of the mines now gone. Industries pretty much all sold including the food chain beyond the farm gate. We can sell farms but the amount of land you need to sell to cover the deficit is mind-boggling. Sydney Real Estate?

        The tumbling boulder and the rock look likely to come together real hard anytime.

      • Or you could say China Inc plays the long game and starts buying Straya Inc.

        I for one welcome new Chinese shops in regional Oz.

        (That’s a joke, totes)

      • ErmingtonPlumbing

        @marshie

        If push turns to shove big time between China and the West, them not wanting to Nuke their own property could be a much greater deterrence than a new fleet of subs.

      • ErmingtonPlumbing

        Maybe tone down the “god bless” and other such churchie utterance’s Bigpond.

        The Chinese are commies don’t you know? They don’t like that kind of talk.

  4. ErmingtonPlumbing

    I am thinking of fixing the larger portion my split mortgage for 5 years in March.

    A good or bad idea ?

    I [email protected] up almost 3 years ago fixing it for a 3 year period @ 6.1%.

    Surely retail home loan interest rates won’t go below 4%, could they?

    How sharp an increase on the variable rate could we be looking at, in 12 to18 mths if/when the credit crunch occurs ?

    • Great questions Plumb I screwed up a bit in that regard also with my daughter’s loan – fixed about the same rate as yours. I didn’t realise how insane everything would become and thought somebody sometime would call a halt and try to do the right thing! Gee! Was that too optimistic!!!!!!
      Love to see opinion on this too!

      P.S. 18 months – hmmm you can imagine inflation might be 15% by then as well! Not that high interst rates will do anything to stop that unless they are high enough to drive the currency back to the 90c mark.
      It would just be another cycle of insanity – trying to quell inflation through a high exchange rate….NUTS!
      (paraphrasing McAuliffe)

    • “How sharp an increase on the variable rate could we be looking at, in 12 to18 mths if/when the credit crunch occurs ?”

      If history is any guide, there will be no increase in the variable rate in the forseeable future

      If you believe this is wrong and that rates will increase, the best thing you could do is sell your house rather than the worry about the mortgage

      • ErmingtonPlumbing

        My house has been my home for 15 years (5 years renting it & 10 years owning) and I’ve still got 10 years till I pay it off.

        To rent my house in Ermington now though would cost me more than the mortgage costs per week. My 5 and 7 year old go to the same school I did in 1976 and I intend to provide for them a single, stable place of residence until they finish their education and growth into adulthood.

        So no brother I won’t be selling anytime in the next 20 years.

        @ all the “crashniks”
        Not everyone with a big mortgage is a money for nothing property speculator looking for a tax doge.

        I support any policy that will increase home affordability to my kids, friends and extended family who have been priced out by speculators and dirty foreign money looking for a place to hide, even if I cop a large reduction in my own equity.
        But don’t in your fury, wish destruction on your fellow travellers.

      • @bourkl and EP

        No one here is a fortune teller. Who knows what central banks will decide to. There is so much political/regulatory risk/uncertainty.
        If they continue with their current put, it just depends on who is right about monetary mechanics.

        If the MMTers are right, rates will be 0 or negative. Don’t fix your mortgage

        If MMTers are wrong, then rates will go up – if rates go up, it is irrelevant what you might be able to rent for vs your mortgage costs because asset prices will be decimated.
        If that is the case, the sensible thing to do now would be sell, and buy back in after the rate rises

    • My view is the cash rate will be at 1% in the next three years. But the spread to mortgages will not come down that full 1.25%. Maybe 75bps of it but that’s a conversational guess not advice.

      • Again
        1. How do you keep rates at 1% when you are being crunched in the external account? Or are you assuming that the whole world will be printing to infinity by then? (Which looks a bit at odds with your remarks above) (or did you answer me elsewhere?) (It’s a request for enlightenment)
        2. Let’s say inflation is, in 18 months, of the order of 10% (very low estimate in my judgement but still…Let’s say – Will the RBA still hold at 1%?

      • Combank 5 year = 5.35% (comparison rate) AMP or someone probably offering lower. Just for the purpose of discussion
        We need Peter Fraser here.

      • @Flawse

        1. How do you keep rates at 1% when you are being crunched in the external account? Or are you assuming that the whole world will be printing to infinity by then? (Which looks a bit at odds with your remarks above) (or did you answer me elsewhere?) (It’s a request for enlightenment)

        Its called a floating exchange rate

        “2. Let’s say inflation is, in 18 months, of the order of 10% (very low estimate in my judgement but still…Let’s say – Will the RBA still hold at 1%?”

        Where is this inflation going to come from? Oil is $40

      • “Where is this inflation going to come from? Oil is $40”

        That’s my question too. Looks to me like the world has far more reason to fear deflation rather than inflation in the next 5-10 years.

      • Even StevenMEMBER

        HnH is correct. Home loan rates won’t / can’t go much lower than present levels (maybe 3% at an extreme?) because it is a function not just of their funding rate, but also their expectations for rising defaults. We are at a ‘sweet spot’ of relatively low funding rates (banks provide debt cheap) and very low expectations for default rates (because banks are stupid). Fixing your home loan is probably a good move.

      • Where is this inflation going to come from?

        Paying for all the imported goods we consume with a dollar that’s decreasing in value ?

    • We split our variable about 2.5 years ago, with around 60% at 4.95%, rest circa 5.18.

      Coming up to re-fix time.

      Daresay we can refix a slightly larger portion (perhaps 70-75%) circa 4.85ish for 3 yrs. Hedge against a rise. Variable rides the falls.

      Our bank just dropped our variable by 28bps unsolicited. They apparently only review annually.
      Another cut in March or May and we might be in for a low rate when we refix in July.

      Repayments remain at original levels in all cases to accelerate repayments.

    • ErmingtonPlumbing

      I’ve been with ME bank for 9 years and am happy enough with them and not giving my custom to one of the big 4.
      (Stuck with one of the big 4 for my business though due to need for mobile efpost thingy)

      Their 3 year fixed is down to 4.28% but the 5 year fixed is still 4.59%.
      If the 5 year dropped to 4.28% by March, I’d be crazy not to fix,?

      Wouldn’t I ?

  5. Probably the real reason they are going up is that the bank will throw the money at you if you margin borrow into their shares.
    These banks are now in speculative territory and the day traders are sharpening their pencils. WW

  6. My favourite was definitely 10. Just remember that you should never worry about high P/E ratios because those who care will already have sold…

    Looks like the work experience student has been allowed to do more than just make coffee today.

    10. High valuation offset by market reaction

    The recent rally in the banks’ share price drove up the price to earnings ratio, triggering concerns of high valuation. CBA is at a PE ratio of 16.6 and NAB and ANZ are even higher at 16.7. Westpac is close behind at 15.0. Historically the bank shares sat at a PE ratio of around 12 times.

    However, some fund managers say investors who are worried about the high valuation would have already sold their shares and taken profits, which is reflected in the falling share prices since Monday, offsetting concerns of high valuation.

    • @AB

      You state: “The recent rally in the banks’ share price drove up the price to earnings ratio, triggering concerns of high valuation. CBA is at a PE ratio of 16.6 and NAB and ANZ are even higher at 16.7. Westpac is close behind at 15.0. Historically the bank shares sat at a PE ratio of around 12 times”

      In relation to ‘ Historically,….. PE ratio of around 12 times ‘, note that PE is, as it should be, negatively correlated with interest rates, all other things remaining equal. These are the lowest interest rates we have had in history, for about the last 18 months. Your 12 times PE average only includes a minor period of these 18-month low interest rate levels.

      So, PE levels currently do not raise valuation concerns, in my view. In actual fact, given the low interest rate scenario NOW forecast, bank PE’s are cheap, not expensive at all.

      Buy these banks, Mates … they’re dirt cheap !!!

      Can’t you see that, Doomsday Preppers ???

      • So why does JPMorgan trade at 11 times and not infinity in the USA ?

        My Swiss shares I assume should be infinity plus plus?

        Your argument is a smelly sell side pitch – like the “13 month yield” phone call the worst brokers use pushing mugs into ex dividend dates….

      • Even StevenMEMBER

        UF – You are right that bank PEs are not stretched (taking into account historically low yields on alternative assets I.e. Cash or bonds).

        But your conclusion that they are ‘cheap’ is questionable. Extraordinarily overvalued property, a dependency on offshore borrowing – these are not minor concerns. On a forward looking basis (past just the next 12 months of earnings) there are some serious question marks over how well they will hold up,

    • Ditto. Waiting for a stack of FMG, RIO puts to go further into the money first. Might even help the cause If I found a cheaper options broker and told ’em to get stuffed.

    • @Andy!

      You should be looking forward to the anticipated hugely better profits from NOW buying OOTM calls on the Big 4 banks.

      Black Swan events, sending bank shares plummeting, happen far to infrequently to be something ‘one looks forward to’.

      Makes much more sense, in this interest rate environment, to go with the trend that has been upwards and upwards for banks since early 2009.

      The above means you make money on the up now, and – maybe – about five years later only, on the down.

      • Prithee, could you provide a link with some basic theory on how these work? I have an options theory book somewhere here that I am yet to peruse, alas, it is packed away whilst I ready the abode for arrival of baby #1.

        Commsec account and SMSF is all I have, though I have in the past dabbled shorting Cudeco with IG index. That’s as complex as I have gotten thus far.

      • @tmarsh
        Firstly, have to get Commsec acc approval to trade options = special application you submit. State therein that you only to buy ( not ‘write’ ) options = Means you can sell only that which you have bought, and not write naked options = You cannot offer for dale that which you do not already own.

        Then, search for call =buy ; put = sell options on ASX / Commsec website for the particular bank shares = too many of them there. They are listed per strike price . Strike price = the price you are willing to trade ( buy or sell the actual share). The closer to the strike, the higher the price. OOTM = Out of the money = cheap option, with the most multiplier effect if profitable, but the moist unlikely to be exercised.

        Others can take it from here now, please. Pleasure

      • “Black Swan events, sending bank shares plummeting, happen far to infrequently to be something ‘one looks forward to’. ”

        You need to look up the definition of a black swan event if you think an Australian housing collapse would actually be one.

    • Yes please. Not just leveraged naked shorts with IG Index but hedges like calls/puts.

      Retail
      And also SMSF assuming commsec or similar (I think I have approval for puts/calls)

    • Google – installment minis and minis. Very easy. In built stop loss. Cannot lose more than you put in. (unlike CFDs). Buy them via your favourite online broker (as long as you can buy and sell warrants) and bingo, you can go short or long.

      There are some really good documents from the makers of these minis (Citibank, RBS etc) who explain with really easy step by step diagrams how the minis work (both long or short).

      Its a very easy way to buy leveraged products. Also very easy to get burnt with leverage.

      This is not financial advice.

  7. Going short Aussie banks is probably one of the most riskiest trades out there…

    You cannot come up with a more protected species than Australian banks – ok maybe US tank and submarine manufacturers with personal Congressmen on retainer – but its close.

    Timing is everything, of course, and always will be with markets.

    • The only thing I have had some success with is XJO oppies.
      And I don’t take ’em, I write ’em 20 days max 5 contracts or less per species. [time premium goes my way ]
      So the bearish play is written call .. the bullish play .. you know the story.. the range bound market is both..
      if it touches the strike through the day its a muppet call by me so close ’em.
      Not using them in the super fund coz as far as I know its classified as derivative speculation.