Income information could put the big four banks in slippery situation

UBS compared what the banks are telling their shareholders with the official statistics on Australian incomes.

If we are to believe the banks’ statements to shareholders, Westpac has much lower home-lending standards than either the Commonwealth Bank or National Australia Bank.

According to analysis from investment bank UBS, Westpac’s owner-occupier and investor home-loan borrowers have 29 per cent lower income than those who borrow from the NAB and 22 per cent lower than the Commonwealth Bank’s borrowers. Accordingly, in theory, Westpac chairman Lindsay Maxsted needs to take his chief executive Brian Hartzer and other executives aside and give them a stern lecture because it looks like NAB and CBA have creamed the high-income earners, leaving Westpac with the rest. But Lindsay, hold your fire. You may need to praise him instead.

If UBS analyst Jon Mott is right the lectures should be coming from NAB chairman Ken Henry and CBA chairman Catherine Livingstone who need to take their chief executives aside because their banks may have been the subject of a massive information fraud.

ANZ chairman David Gonski also needs to do some personal information detail checking because the ANZ does not reveal the same data as the other three big banks. We do not know whether the claimed income of ANZ home borrowers comes into the NAB/CBA category or is more like Westpac.

If UBS is right — and it could be wrong — we are looking at the possibility of mistakes by at least some Australian banks that could trigger a rise in housing bad debts. Moreover, again if UBS is right, bank shareholders have been grossly misled about the income security backing vast numbers of bank housing loans. If this causes bad debts and a fall in bank share prices then watch out for massive class actions.

And, of course it will be one of the key issues that will face the royal commission into banking.

The UBS research is based in comparing what the banks are telling their shareholders with the official statistics on Australian incomes plus a remarkable revelation in the Federal Court in the car loan sector.

On the basis of the information banks have been supplying shareholders, the average household income for owner-occupied borrowers is $208,000 and for investment property borrowers is $236,000. And the Australian Bankers Association revealed that 950,000 mortgages were written in Australia during 2017.

UBS then began working on the borrower income levels provided by the three majors to their shareholders and calculated the percentage of bank customers in each income bracket who took out a mortgage in 2017. Its conclusions are so startling that there are only three possibilities — Australian statistics greatly underestimate Australian incomes, UBS has done the sums incorrectly, or the banks have been subjected to massive information fraud. UBS statistics reveal:

• 42 per cent of households with a gross income of $500,000 took out a mortgage in 2017. (That’s a ridiculous figure.)

• 27 per cent of households with a gross income of between $200,000 and $500,000 took out a mortgage in 2017. (Again that is simply just not possible.)

• Only 3 per cent of households with gross income of $75,000 took out a mortgage during 2017.

UBS says: “We believe this does not appear logical and is highly improbable.” That’s an understatement. We are looking at massive information fraud.

Last year, UBS raised the prospect of so-called “liar loans” where people made false statements on their bank loan applications. Now UBS says that, via the Federal Court, it has discovered the way much of the information fraud took place and how it was concealed in the bank statistics

The Federal Court case was about car loans and the ANZ bank was pinged $5 million because it had failed to take reasonable steps to verify the income of car customers. Then to assess credit quality, the bank had relied solely on documents that appeared to be pay slips when, according to the court, the bank should have known that pay slips were a type of document that could be easily falsified.

UBS believes pay slips are the key criteria banks use in determining borrower income for home mortgages. With the Federal Court discovering they can be easily falsified, it raises the possibility of widespread fraud

Last week, I ran into a person who was linked to David Murray’s recent investigation into the banks. He was surprised at the cavalier way banks handled their business. For example, they launched products without properly testing them. That same culture could easily extend to assessing the income of borrowers.

Bank regulator APRA has tightened the lending criteria screws but the loans are in place and a vast number of Australians appear to have falsified their income using forged pay slips.

The delegation of mortgage loan applications to brokers may have contributed to the falsification. In former days, bank managers knew their customers but today banks no longer have contact with big chunks of their borrowers.

If UBS is right and bank customers have been massively overstating their income to gain loans they cannot afford then his helps explain the widespread mortgage stress people at all levels of society are recording because their real income has not been rising to cover the gap. It also helps explain the low growth in retail sales. As long as the price of dwellings either keeps rising or holds steady, the banks and their customers may work this through, although interest-only loans that mature are a major obstacle.

But if the housing market falls then the banks have a deep problem. In the US, the frauds that took place in the lead-up to the global financial crisis sent banks to the wall. We are not looking at anything like that in Australia but bank share prices are vulnerable if the housing market has a downturn.

But it all depends on whether the UBS research is right. This is some of the most important research to come out of an investment house. This is important for the nation so both UBS and the banks have work to do. So have the ASX, APRA and the royal commission.