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Westpac Funding Issues

Title: Has Westpac bitten off too much?
Source: Business Spectator
Website: http://www.businessspectator.com.au/bs.nsf/Article/Westpacs-funding-challenge-pd20100120-ZV5JG?OpenDocument&src=sph
Issued: 20 January 2010

The decision by Westpac subsidiary RAMS Home Loans to stop originating home loans through the mortgage broker channel tends to confirm the suspicion that Westpac is suffering indigestion from gorging on the home loan market last year.

Westpac and Commonwealth Bank were extremely aggressive in growing their shares of the home loan market last year. While National Australia Bank and ANZ constrained their growth to keep it in line with the growth in their retail deposit bases, Westpac and CBA went on an acquisition spree, growing their home loan books at multiples of their Melbourne-based competitors.

The first sign that the strategy might be causing some strains came with Westpac’s controversial decision to raise its home loan rates by 45 basis points in December, out-stripping the 25 basis point increase in official rates. NAB passed on only the 25 basis points, ANZ 35 basis points and CBA 37 basis points.

In tandem with its unexpectedly large hike in home loan rates, Westpac also significantly lifted the rates it was offering on term deposits. The obvious conclusion was that the growth in its loan book had out-stripped its ability to sensibly fund it and therefore that it was prepared to become less competitive in origination in order to become more competitive in attracting deposit funding.

The RAMS decision tends to confirm that view. Westpac said last year that RAMS had been responsible for about 20 per cent of the growth in its home loan book. Shutting down RAMS’ use of the broker channel would help temper growth in mortgages at the lower end of the margin spectrum. Westpac has also tightened its lending criteria, which could suggest it is concerned about the quality of the mortgages being originated.

The more significant issue, however, is the funding one. Westpac’s deposit growth last year fell short of its home loan growth by about $26 billion, according to a UBS analysis published last year. CBA’s shortfall was even bigger, at $40 billion, but CBA started with a much bigger retail deposit base.

All the banks have tried to reduce their reliance on offshore wholesale funding, particularly at the short end, after experiencing a glimpse of what might happen if they lost their access to wholesale markets during the worst of the financial crisis.

With the residential mortgage backed securities market still not properly functioning, they have focused on building their retail deposit bases, bidding up the cost of deposits sharply in the process.

In the initial phase of the crisis the flight to safety saw deposits pour into the big banks’ coffers. As the crisis has receded, and with the comfort of the federal government’s deposit guarantees, that tide has halted.

Reserve Bank deputy governor Ric Battellino made that point in a speech late last year. He said the deposit share of the banks had stopped rising in the second half of the year as the risk appetite of investors returned and that it appeared the banks had exhausted the available opportunities to induce investors to increase their holdings of deposits. The "deposit war" among the banks produced little net benefit for the system in the way on increased deposit funding, he said.

The Westpac strategy of a big increase in home loan rates to fund a big increase in rates on deposits could therefore be seen as a way of re-directing an otherwise stagnant pool of deposits from its peers to itself to help rebalance the relationship between its home loan book and its levels of deposit funding. Sacrificing home loan market share in the process would be another element of achieving a better balance.

All the major banks would be conscious that competition for the available wholesale funds can only become more intense as governments around the world start issuing sovereign paper to fund the massive commitments they made during the worst of the crisis. Both cost and availability could become more permanent uncertainties even as markets normalise.

In the past the banks could fund whatever demand there was for credit by borrowing offshore and/or securitising mortgages and other asset-backed securities. Now they are learning to live within their (funding) means.


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