Global Banks Rally; ASX Banks Shine in APAC. But Why?

 

If economy were a human body, banks would be its circulation system. That is the importance of banking in any economy. Banks, through the credit line, ensure that the economic engine of any geography keeps revving. That is not it, the banks help in the movement of money from surplus avenues to the places where they need it the most: they channelise the deposits and brand them as loans.

That said, 2021 has been a year of ups and downs for the banking Industry. While the world has had its share of good and the bad news, banking stocks have steadily rallied in 2021, despite the big tech taking all the limelight.

Take this example: the Dow Jones Banks index, which houses most of the Wall Street banks, has rallied by 25.03% on a year-to-date basis. This is despite the fact that the Archegos debacle had caused losses of about US$10 billion to some of the largest banks.

But in the larger scheme of things, North America including the US, is not as important as it is perceived, when it comes to size.

For this, let’s look at how banks are distributed across geographies.

Let’s start with North America. The continent is home to the world’s richest country – the US. With a land mass of 24.71 million sq kilometres, North America is almost twice the size of Europe – which has a land mass of little over 10 million sq kilometres. Thanks to the inaccessible areas in the northern most corners of the American continent, Europe’s population is 29% more than that of North America. The number of banks in the Europe is 9% more, as well.

But let’s shift focus to Asia Pacific (APAC) now. With about 48 million sq metre area, the APAC region is twice as big as North America. The population of the region stands at 4.2 billion – almost eight times that of America. With APAC housing just 52% more banks, it might sound way lower proportionally. But let’s single out China from APAC here. Of the top five banks in the world, in terms of size, four are from China. As surprising as you may find it, only one much-fabled Wall Street bank makes the cut to feature in the top 5 list– JP Morgan Chase & Co (NYSE:JPM) at the fifth slot. To put things in perspective: the asset size and pre-tax profit of the largest Chinese Bank – Industrial and Commercial Bank of China (ICBC) – is twice that of the top placed Wall Street bank – JP Morgan.

So, in APAC as well, banking stocks have given healthy returns. FTSE China A600 – Banks, the banking index in China – has given a year-to-date return of 6.83% -- till 7 July. Mind you, this is the market that loves being flat and that has witnessed government’s crackdown time and again – including this year. In neighbouring India, the Nifty Bank Index has given a return of 14.56% till 7 July, despite the country’s core woes, including bad loans in the banking sector.

But the star of the APAC has been Australia. On the Australian Stock Exchange, the financial sector index – S&P/ASX 200 Financials – has rallied at an impressive 19.26% (till 7 July) – in line with its Wall Street counterpart. The financial index, which includes banks, has outperformed ASX200 by a whopping 10 percentage points this year. To put it simply, the growth shown in the financial sector stocks this year, is more than twice that of the broader index.

But why has Australia outperformed its APAC peers? This despite the Reserve Bank of Australia (RBA) expecting the asset quality to deteriorate. This is even though some of Australia’s banks had to incur one-off hits due to regulatory fines. But there are multiple reasons, according to the sector insiders, that may have led to this surge.

First, Australia has been one of the best performers, when it comes to handling the COVID-19 outbreaks. Couple that with fact that stimulus packages have helped Australia recover faster than expected. The faster recovery would mean an increased demand as well as a surge in loan growth – the primary source of revenue for any bank.

There have been couple of other factors as well that have been contributing to this rally: property prices in Australia are rising to the record high levels and the Australian Prudential Regulation Authority (APRA) has relaxed some of its capital management guidelines for authorised deposit taking institutions (ADIs) in Australia.

At the global level, most of the banks have been beating the earning estimates. Also, towards the end of 2020, there was a certain degree of consolidation in the banks at global level – helping them with scale. At the macro level, long-term yields have been rising, as short-term yields have remained near zero – meaning that banks are likely to borrow short-term money and lend it out long. All these factors are contributing to the rally in the markets.

But globally, due to tweaked rules and relaxed norms, the stress in banks is not out yet. The day, banks start recognising the stress in their books, and come out in the open on it, it may lead to impairment in the balance sheets of many. In many countries that are still struggling with the pandemic, like India, there have been green shoots of stress in the retail assets of banks – a rarity. Once that plays out, all these ancillary factors driving the rally will be blown away, and fundamentals would be the talk of the town, or rather, the world.