Lockdowns, loan losses to heap pressure on small banks and lenders, Citigroup warns

Rolling COVID-19 lockdowns and rising loan losses pose risks to small banks and lenders, and may see some players exit the market, Citi says.

A second wave of COVID-19 infections and the risk of more loan repayment deferrals has Citigroup analysts worried. ​

Renewed COVID-19 lockdowns and a prolonged crisis could see small banks and lenders exit the market, as they confront the need for more capital and a spike in loan losses, Citigroup has waned.

Melbourne-based Citigroup analyst Brendan Sproules said major banks would be the beneficiaries of market share, given the heightened pressure on smaller players as the pandemic’s fallout worsened.

“Rolling lockdowns and a protracted crisis could test the mettle of small ADI (authorised deposit-taking institutions) and non-bank shareholders to inject further capital and keep growing their businesses,” he added.

“Depending on the duration, this could see smaller players exit and improve market structure in the medium term. While low rates have dented industry returns, better market structure could provide an offset in the long run.”

Australia’s top 20 lenders have approved a combined $266bn of repayment deferrals, or 10 per cent of all loans, according to the Australian Prudential Regulation Authority. The banks, government and APRA last week allowed favourable capital treatment to continue for six-month loan deferrals, for a further period of four months for borrowers unable to restart payments due to the pandemic.

That coincided with Melbourne locking down residents due a renewed COVID-19 outbreak in the city.

Citigroup welcomed the extension in loan repayment periods given the risks posed by the pandemic, but said it was just one step being taken to avoid a fiscal cliff in September and October.

Real relief?

“Real relief or accounting trickery? We would argue the former as while time will not heal all wounds, it will cure most of them,” Mr Sproules said. “At the very least, providing the banks capital relief allows them to give borrowers the benefit of time to restore incomes, get disrupted businesses back on track or restructure their affairs.

“The Melbourne lockdown and Victorian border closure clearly throws some of this careful planning out of the window.”

The analysis also warned of tentative signs of stress in the loan books of non-bank lenders, pointing to Citigroup’s discussions with some industry players.

“Conversations with non-bank lenders suggests that delinquencies have already risen fourfold prior to the Melbourne lockdown, raising the question of what further stress may do for those smaller lenders and the implications for the system,” Mr Sproules said.

The Citigroup analysis outlined that the big banks were seeing some benefit from the pandemic, through increased flows of deposit and loans.

“Coupled with capital raised from the market and forgone/reduced dividends, strong provisions and cheap funding in place, the additional capital relief plays well to the majors,” Mr Sproules said. “This is none more evident than in the recent swing in volume momentum back to the majors.”

Commonwealth Bank chief executive Matt Comyn has labelled the second lockdown in Melbourne as “a setback” for the domestic economy’s recovery from the first recession in almost three decades.

“It is a risk that we all knew right around the country. And we have seen Australia continues to dramatically outperform countries globally. But Victoria is a very significant state and economy. It is about 25 per cent of the overall national economy,” he said.

“So clearly, going into lockdown for six weeks is going to have an impact.”

But Mr Comyn said home loan volumes had held up better-than-expected, buoyed by refinancing activity, and deposits had been strong during the pandemic.

“We are seeing big increases in deposits … A lot of the early support from both the government as well as access to super has meant that there is so much liquidity.”

The Reserve Bank has a $90bn funding facility open to banks during the COVID-19 crisis, while non-deposit taking lenders and small banks have access to $15bn in funding being managed by the Australian Office of Financial Management.

Of the $90bn funding facility available to banks, $15bn has been drawn so far, the central bank said last week. The big four banks have set aside almost $5bn for COVID-19 related loan losses so far.