Banks under the pump as more interest rate hikes loom

Faster-than-expected interest rate hikes have increased the risks for shares and property with banks, retailers and property trusts in the firing line.

Some economists are forecasting a 10 to 15 per cent fall in house prices over the next year. Picture: NCA NewsWire / Christian Gilles

Faster-than-expected interest rate hikes have increased the risks for shares and property with banks, retailers and property trusts in the firing line, according to analysts.

The share prices of the major banks fell sharply a day after the Reserve Bank’s outsized interest rate hike and hawkish view.

NAB fell 4 per cent, CBA lost 4.4 per cent, Westpac dropped 6.1 per cent and ANZ lost 2.3 per cent. Most of the banks hit three-month lows while ANZ hit a 16-month low.

Investors switched to resources as Jefferies upgraded BHP and Rio Tinto on China optimism, and Woodside surged 5.6 per cent as investors sought to preserve their overweight positions after Woodside became a bigger part of the market after its acquisition of BHP Petroleum.

But rate and housing-sensitive sectors such as property trusts and retailers suffered along with banks.

Morgan Stanley Australia equity strategist Chris Nicol said a faster hiking cycle posed more risk to house prices, wealth and overall equity index direction.

Rate hikes were a “margin expansion opportunity” but “the quantum and pace of hikes we now forecast make this a small prize against the risks that we see potentially building in the economy from planned monetary policy normalisation”, he said.

He continued to recommend “minimal exposure” to consumer-facing and housing-linked sectors and warned of risks from higher rates and persistent inflation.

It came as UBS Australia chief economist George Tharenou saw the RBA cutting rates by 50 basis points in late 2023 after lifting his “terminal rate” forecast to 2.35 per cent as the central bank’s “reaction function shifted further to wages liaison” after removing its May comment that “aggregate wages growth was subdued during 2021 and no higher than it was before the pandemic”.

He saw rates peaking in late 2022 after another 50 basis point hike in July, and 25 basis points in each of the next four months, after the RBA said rates were still “very low” and “further steps in the process of normalising monetary conditions in Australia over the months ahead” were needed.

The higher rate profile he now expected would likely see house prices drop more than 10 per cent, “slamming consumer confidence, which will then probably see a sharp slowing in consumption”.

Tharenou warned that if inflation remained high in the first half of 2023 the RBA might keep hiking, which would “raise the risk of a hard landing”, given they’re “committed to doing what is necessary to ensure that inflation returns to target over time”.

But a pause was more likely as the RBA said the size and timing of future interest rate increases would be guided by the incoming data and “the outlook for inflation and the labour market”.

“We still think market pricing – which increased today towards about 3.75 per cent – if delivered, would likely crash housing and drive a recession,” Tharenou said.

Similarly, Capital Economics said a housing downturn would prompt the RBA to cut in late 2023.

With the RBA set to hike the cash rate to 3 per cent by early 2023, house prices were likely to fall 15 per cent from their April peak to a low in late 2023, said Capital Economics economist Marcel Thieliant. Previously he expected a 10 per cent fall in house prices.

“While the economy has considerable momentum from reopening in the near term, plunging house prices will weigh on consumer spending and dwellings investment and force the RBA to cut interest rates in late-2023,” he added.

Morgan Stanley’s Richard Wiles warned the RBA looked to be at the start of a “quick and aggressive tightening cycle” which “increases tail risks for the banks”.

After moving from a positive stance to a neutral position on the majors in April because their valuation discount had narrowed, he said much of the benefit of higher rates was factored into the outlook, housing loan growth was likely to slow, and inflation was putting more pressure on costs.

“We believe the near-term earnings outlook remains sound, but the risk of a trading multiple de-rating has risen,” he said.

His forecasts assume net interest rate margins rise 10 basis points by late 2024, mortgage growth slows to 3 per cent in 2023 and impairments reach 19 basis points of loans in fiscal 2024.

But while earlier and larger rate rises and higher three-year rates gave near-term upside risk to margin forecasts, they would also cause higher sensitivity to deposits, more expensive wholesale funding, a weaker housing and mortgage market, and greater recession risk.

Excluding the gradual RBA hiking cycle of 2002-2008, an average PE multiple de-rating of 1.5 times occurred in the first three months of the first hikes and 2.5 times between the first and last hikes. But the starting point of 15.6 times in this current cycle was higher than in 1994 at 8.2 times and 1999 at 12.2 times, albeit lower than 2009 at 16.2 times.

“CBA’s PE multiple peaked at 17 times in its first 28 years as a listed company before the onset of Covid, but it has averaged 18.5 times over the past two years,” Wiles said.

“Given a PE multiple of over 18.5 times and the 48 per cent premium to the other major banks, we believe it is the most vulnerable of the majors to a de-rating.”

JP Morgan’s Andrew Triggs saw supportive conditions for the banking sector from the economic outlook and market indicators, but warned higher rates were a “double-edged sword”.

“Cash rate hikes off record lows should lead to modest net interest margin expansion, but faster hikes raise concerns about a credit growth slowdown and asset quality deterioration,” he said.

“While the economic outlook supports our expectation of a reversion to a more ‘normal’ level of credit costs for the sector, negative sentiment has the potential to hurt the sector.”

Triggs noted that bank shares tended to underperform in periods of falling house prices.