Wednesday, March 3, 2010

Bank Earnings in a Basel III World [Citibank Capital Markets Research] $GS $JPM

• More & higher quality capital and liquidity will impact EPADR — from FY12 global
regulatory change will inevitably lead to some unrecovered hit to interest margins.
This, in combination with higher peak cycle capital ratios, will depress ROEs.
Over the course of the reporting season, we have built this impact into our
estimates, resulting in FY12 basic cash EPADR cuts of 8% to 9% for ANZBY and
• Key drivers are higher funding costs and capital levels — while the ultimate
conclusion to the Basel III reform process remains unclear, our key assumptions
are that around half of the funding cost of proposed liquidity reforms will not be
recovered from customers and that peak cycle tier 1 capital ratios will be a
minimum 8% plus a 1% buffer.
• ANZBY looks worse impacted (albeit well placed on capital already) — due mainly
to its relatively large suite of investments in Asia and wealth management which
become 100% deductions from tier 1 capital (previously only 50%).

• With APRA already more onerous than its peers, will it relax? — On top of the
global changes, APRA maintains tighter standards on Mortgage and Interest Rate
Risk weightings as well as dividend accrual. These have a depressing impact of up
to 2% on Tier 1 ratios currently but must have the potential to be relaxed given a
push for greater uniformity in global capital and liquidity standards.
• Leverage ratio unlikely to be a capital constraint — while ANZBY would also suffer
under such a measure given its higher contingent exposures; we believe APRA is
unlikely to enforce a restrictive ratio
. This results in a relaxation of our earlier
assumptions – freeing up capital for the larger mortgage banks.
• On a 12 month view we favour ANZBY — due to near term earnings revisions.
Despite notable relative underperformance, NABZY's execution risk keeps it on a
HOLD rating.

• This is an excerpt from an underlying research report titled “Australian Banks:
Bank Earnings in a Basel III World” dated March 02, 2010. Note that all the
changes described in this note occurred on the 02nd. For a full copy of the report,
please contact your Citi sales representative.

Bank Earnings in a Basel III World

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