Capital Update: Australia and New Zealand Banking Group Limited

ANZ announced today a fully underwritten institutional share placement to raise $2.5billion and a shareholder share purchase plan to raise around $500 million. The reason behind this capital raising is in response to the FSI recommendations and what ANZ describes as a “surprise” to an “accelerated timetable” of the change to risk weights on residential mortgages. This capital raising is not unexpected as the bank had remained relatively quiet post APRA announcements (brief announcement about sale of Esanda and possible sale of joint ventures). Also, their Common Equity Tier 1 ratio was relatively low compared to other major banks.

There remains a significant amount of uncertainty for the banking sector where APRA will benchmark the new capital requirements post the BCBS review (“Basel IV”) and this action is also a mitigant to the uncertainty. Our position remains unchanged – the major banks must increase their nominal capital requirements and ratios going forward. Capital uncertainty is a bad thing for bank equity but an increase in common equity bank capital is a good thing for debt and hybrid instruments.

What is the change to risk weights:

Australian lenders using the standardised approach and the Big Four banks (and Macquarie) who use the internal ratings based approach have very different average risk weights (39% vs 18%). The smaller lenders and their supporters have complained about this difference as giving a competitive advantage to the IRB banks. Reducing the risk weighting under the standardised approach would not be possible as it would deviate significantly from the Basel Committee norms and would, in any case, run counter to the Inquiry’s aim of making the financial system safer. Indeed, it cites “the findings of APRA’s recent stress test which found regulatory capital for housing was more sufficient for standardised banks than IRB banks”. The IRB banks are of course protesting that their capital allocation reflects the risk in their housing loan books and removing any benefits from the large investment they have made in the systems needed to support IRB would undermine their incentives to make such investments. The Inquiry therefore recommends setting a floor risk weight for housing loans at 25-30% which “would be roughly equivalent to a one percentage point increase in the major banks’ CET1 ratios”.