Investors push Commonwealth Bank shares to record high as fund managers warn on bank dividends

Commonwealth Bank’s meteoric share price rise to new highs has analysts stumped and fundies warning dividends across the big 4 banks can’t hold up. But will investors care?

Questions about big bank dividends remain.

After piling into banks last year, investors are now looking at the sector with trepidation.

The key takeaway from the major lenders’ earnings results this month was around dividends, with serious questions now as to the sustainability of the current level of twice-yearly payouts.

Among the concerns are that margins are under pressure as competition and funding costs bite and the growth outlook is very uncertain. But once again, there’s a standout performer and there’s no prizes for guessing which one it is.

CBA’s shares hit a fresh record above $172 on Friday giving it a market capitalisation of $288bn, with analysts and fund managers scratching their heads as the gravity-defying stock keeps pushing higher.

Why CBA shares hit a record high

Gravity-defying CBA has seen its share price push up more than 40 per cent over the past 12 months, leaving its competitors in the dust.

Over the same period, Westpac is up around 18 per cent, NAB 7 per cent and ANZ limps into last place with a 3 per cent rise since last May.

No doubt CBA is facing the same challenges as the rest of the sector. As Morningstar equity market strategist Lochlan Halloway said in a note this week: “The earnings outlook is not particularly inspiring.”

CBA, the nation’s biggest bank, this week reported flat cash profit for the three months to the end of March compared to the December quarter, as it noted a rise in loan defaults.

The difference between CBA and its peers is it has always had a better capital position, meaning its dividends are more sustainable. It also means when bad debts eventually hit, Australia’s biggest bank doesn’t have to raise capital like its peers.

Despite the challenged sector outlook, CBA is proving its worth as the favourite, fund managers say.

“The number one conclusion from results season is dividends are looking very stretched for all the banks except CBA,” says Investors Mutual portfolio manager Daniel Moore.

For the rest of the sector, “dividend sustainability is definitely being questioned. Excess capital positions are deteriorating and their growth outlooks are very benign due to competition,” Moore warns.

While passive funds are piling into CBA, its share price appears too rich for the smart money. Investors Mutual is not buying at current levels, Moore says.

Moore isn’t tipping NAB, Westpac and ANZ are about to start slashing their dividends overnight but says it could happen on an 18-month view. And while we don’t know what will happen over that 18 months, especially given Donald Trump’s unique leadership style, the market is expecting substantial cuts to the cash rate over that time.

In fact one lender, NAB, believes the cash rate will have a 2 in front of it as soon as February. While NAB sees the RBA cutting to just above 3 per cent by the end of this year, the bank is tipping one more cut next February, to bring rates to 2.6 per cent.

While the extent of the rate cuts may now be in question as the US and China pause their trade war, the market still expects three cuts this year. And that will heap even more margin pressure on the banks at a time when analysts and fund managers are already warning about the challenged outlook for profits as costs rise and competition intensifies.

What investors think of CBA

Anyone looking to buy into CBA must surely be wondering what could bring the high flyer down. A macro event is Moore’s guess. And that’s exactly what happened last month, in the wake of Trump’s ‘Liberation Day’. The market had a collective meltdown as investors rushed out and CBA played its part, dropping close to 8 per cent. The decline was short-lived.

CBA’s share price is up about 40 per cent in a year as investor money flows into the Australian market. Pictured is CBA CEO Matt Comyn. Picture: supplied

WAM Leaders portfolio manager Matthew Haupt says the banking sector’s tailwinds of recent years, including cheaper funding, are now turning into headwinds. He believes NAB, ANZ and Westpac’s share prices will trade sideways from here while CBA, the most expensive bank stock in the world, is primed for a fall.

Are CBA shares overpriced?

Morningstar says the bank stock is too expensive and has long since surpassed fair value.

“We’ve questioned CBA’s valuation before, and yet the shares keep climbing. Its latest result met expectations, offering littleto unsettle investors. But what the market is willing to pay for those earnings remains, in our view, unjustifiable,” Morningstar’s Halloway notes.

“All else equal, you’d pay more for a business generating higher returns on equity. But even the best business has a fair price, and CBA has long since surpassed it,” he says.

But analysts have long complained that CBA is overpriced, and yet the stock keeps climbing. WAM’s Haupt thinks the only way CBA’s rise can be stopped is if flows move away from Australia and towards other markets such as the US and China.

“When investors look into this region, they see CBA is a large weight, so it gets all the passive and index flows. So we just need flow dynamics to change, whether that’s to Japan, China, India, the US or elsewhere, because Australia is seen as a bit of a safe territory at the moment, so money is flowing in here,” Haupt says.

The other three major banks don’t see these flow dynamics to the same extent because they’re not the heavyweight in the sector, he adds.

So, is CBA a safer bet than its peers longer term? It depends on your view of the rest of the world, according to Haupt. “When it gets funded, it’ll be funded quite quickly,” he notes, meaning if an event happens that sees foreign investors rush into Australia’s sharemarket, you can count on CBA’s share price pushing higher and higher.

The smart money says not to try timing the market but also tells us that (obviously) the higher the price you pay, the lower your returns. So spare a thought for ANZ and Westpac investors who bought in at the April 2015 peak. A decade later and they’re still waiting for their investment to turn positive. Even worse for investors who bought NAB in 2007 at $41 apiece. The stock currently trades at about $36.

Originally published as Investors push Commonwealth Bank shares to record high as fund managers warn on bank dividends