Profit margins for 'big four' banks tipped to feel low-rates squeeze

A squeeze on major bank profit margins and falling returns for savers have sparked predictions a widely tipped move by the Reserve Bank to cut interest rates will not be passed on to borrowers in full.

Financial markets are tipping almost an 80 per cent chance of a 0.25 percentage point cut in official rates from the RBA on Tuesday. But how much borrowers receive will depend on banks, which are facing commercial pressures to only pass on some of any reduction in the cash rate.

The big banks' profit margins are predicted to be squeezed if official interest rates fall further.Credit:

A decline in interest rates on deposits towards zero is in turn putting the squeeze on banks' net interest margins (NIM), the difference between banks' funding costs and what they charge for loans. This occurs because as rates get lower, a growing proportion of banks' deposits are paying nothing, or close to it, so cannot be cut further.

Although banks are also benefiting from a fall in their wholesale funding costs, stockbroking analysts say the overall impact of further cash rate cuts will be to crunch NIMs, which are a key influence on bank profitability.

In a note to clients on Monday, Evans & Partners banking analyst Matthew Wilson estimated the big fours' NIMs could contract by between 0.13 and  0.24 percentage points if the cash rate is cut to 0.5 percentage points, a scenario markets have priced in by mid next year. Westpac and Commonwealth Bank would be most affected by the decline, he said.

Mr Wilson said that although banks had complex arrangements in place to manage the impact of interest rates, the analysis showed that "sustained very low interest rates weigh on net interest margins and hence bank earnings power."

Finance expert at comparison website Canstar, Steve Mickenbecker, predicted that any 0.25 percentage point cut from the RBA would be met by a reduction of between 0.15 and 0.2 percentage points in banks' borrowing rates.

Against this, Mr Mickenbecker he highlighted banks' popular online savings accounts are only paying about 0.15 per cent as "base" or ongoing rates. Another cash rate would mark a "black day for savers," Mr Mickenbecker said.

Bell Potter analyst TS Lim said he expected a contraction of about 3 to 4 basis points in the major banks' NIMs during the six months to September. Mr Lim said that if the RBA cut interest rates further, banks would likely give borrowers a "partial" rate cut, as depositors' interests also needed to be considered.

"I think it's going to be harder for them to pass the full rate cut," Mr Lim said.

Managing director at White Funds Management, Angus Gluskie, said there was a "general consensus" in financial markets that lower interest rates were negative for banks' profit margins.  Mr Gluskie said banks would be under political pressure to match the full value of any RBA rate cut, but he believed  there was a "moderate probability that there will be some hold-back" by the banks.

The predictions came as Westpac, National Australia Bank and ANZ Bank ruled off their financial year on Monday, a period of sagging loan growth due to tighter credit standards and the housing correction earlier in the year.