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Banks do well but face serious challenges

New Zealand’s banking sector had a solid 2013, with economic recovery picking up pace and beginning to show through in the results.

Profits rose 8.61% across the banking industry in 2013, with an increase in lending assets of 4.35%. Return on assets recovered to 1.0%, now sitting just below the level last seen before the Global Financial Crisis (GFC).

Return on equity remains at 14.21%, similar to 2012. Crucial to the post-GFC adjustment, impaired asset expenses dropped $153 million from $659 million in 2012 to $506 million, a decrease of 23.21%. This is now the fourth consecutive year impaired asset expenses have declined.

Green shoots

There are strong, green shoots emerging now.

Our banks saw real loan growth on their balance sheets in 2013. Most worked hard to improve their profitability, achieving this through a combination of margin retention, a drop in the cost of funds, improved credit quality and pressing on with cost reduction initiatives in their organisations.

Shielding these ‘green shoots’ from the frost of regulatory reform is likely a challenge for 2014. Restrictions of Reserve Bank of New Zealand on high Loan-to-Value-Ratio (LVR) lending, anti-money laundering legislation coming on-stream and Foreign Account Tax Compliance Act (FATCA) reporting have all proved burdensome for our banks in 2013.

In addition the change from floating to fixed mortgages and competition across the sector will be a challenge.

Spirited competition

Within the sector, competition intensified over 2013, as banks competed harder for ‘good customers’. This is set against a backdrop of historically low interest rates and the anticipation that these low rates will soon end.

Strong growth in retail deposits indicates that banks are less reliant on the wholesale debt markets as they look for more stable sources of funding.

The themes of the year was certainly the adjustment to the Reserve Bank’s new LVR rules, an adjustment which has been long and involved for both banks and customers.

Before the LVR rule change the banks were probably writing 20% to 30% of their mortgages a month with a greater than 80% LVR; now, they are probably writing 4% to 6% of them with a greater than 80% LVR. In short, there will be spirited competition for anyone who is a good loan, be it a household mortgage or a corporate.

For our banks, the feeling is if markets (particularly global markets) do not have an upset, the funding costs will remain suppressed helping them retain their margins in 2014.

Chandan Ohri is Partner (Advisory, Management & Risk) at KMPG New Zealand, Sponsor of the ‘Business Excellence in ICT category’ of the Indian Newslink Indian Business Awards 2014. Phone: (09) 3675857 Mobile: 021-867361; Email: cohri@kpmg.co.nz

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