Readers have probably grown tired of my consistent bearish outlook on markets since November 2015 where I warned about an impending market retreat of significant proportions. I warned that sky high prices for asset managers – like Magellan, Bankers Trust, Platinum, IOOF and Macquarie Bank – were all due for a serious drop. Blow me over, surprise, surprise they have declined almost 25% just in 2016.
Accompanying this warning has been my negative view on the banking sector where I highlighted the risks poised for global banks in 2016 as the zero and negative interest rate policies of central banks continue to lever the financial system to the point of a repeat of 2008.
Unfortunately, mainstream analysis, brokers, strategists and newsletters disagree citing one-dimensional and ‘kindergarten’ reasoning – dividend yields. I was watching Sky Business on Tuesday night and almost every stock was a ‘buy’ –including MACQUARIE BANK. The panelists didn’t mention anything about the upcoming operational briefing being held by the company on Thursday nor did they mention anything about the risks posed to viewers about the macro-changes occurring in the industry. Instead it was a mere case of buy because it’s on support. Shameful and some of the worst advice I have seen. I couldn’t watch anymore.
Fast forward and in line with warning on the banks last year and again two weeks ago where I have been highlighting the key crucial factors affecting the banks, Macquarie Bank’s share price was decimated by 12.3% in the next two days as the bank acknowledged tougher conditions.
This performance is merely a lag to the sharp falls in the US banks post their earnings results I showed in my last column. It’s also in keeping with the current share price moves from European banks – UBS fell 10% post its result this week and Credit Suisse plummeted 12% overnight post their earnings.
The most concerning of all is Deutsche Bank. Prior to MF Global, Lehman Brothers and Bear Sterns all going under, the price of their bonds plummeted. As concerns increase of solvency, stress is seen not only in the share price – where most amateur investors try to pick lows and buy – but also in the debt market where the attitude by professionals is ‘what’s wrong”’.
Worryingly, DB’s credit risk is spiking substantially as concerns mount over its derivative exposure – $75 trillion! To put this into perspective the entire Eurozone GDP is just $13 trillion and German GDP $4 trillion. DB’s most recent loss of 7 billion euros is greater than that seen at the height of the GFC. As a result the balance sheet of DB comes into question, credit risk increases and below is a chart from Zero Hedge showing the sudden concerns markets have over DB.
This is occurring simultaneously with the DB share price dropping below its 2008 low. The trigger point for a real world panic will be when one financial institution will no longer want to deal with DB. That will be the spark that could spark a huge domino affect across the industry.
So when we turn to Australia, the banking sector is very vulnerable and having been shown everything so far, is anyone surprised by Macquarie’s fall? Or by the decline in asset managers? Nor should anyone be surprised by further declines in local banks.
Kyle Bass, the legendary investor who made billions shorting sub-prime mortgages and followed this with a bearish view on Japan by shorting the Yen, now sees China’s credit bubble exploding within months. His position on benefiting from Yuan weakness is in the billions. I noted in my last column that investors need to be prepared for a rapid and sudden devaluation of the Yuan circa 10%. Kyle Bass believes it will be in the order of 30 to 40%. It seems there are bigger bears than me.
And what affect will a 10%+ devaluation in the Yuan have on Australian banks? Mammoth. Wave goodbye to the huge buying support for local housing market and say hello to oversupply in the apartment market. Add to this exposure the banks have to property developers, consumer loans, small cap oil producers and not to mention exposure directly to China.
Underlying funding costs have been rising for the banks hence why they raised rates on home loans last year. Costs are continuing to rise because of the risks noted above and as margin pressures decline, mark my words, dividend growth will quickly become a thing of the past. No surprise then that bank share prices keep falling and look very vulnerable to a serious correction.
The current price action across the entire banking sector is nothing short of dismal without the bearish sentiment that would traditionally accompany a low point or oversold conditions. Instead we are seeing persistent buy the dip mentality with the only supporting argument being ‘dividend yield’. The yield trap and picking lows would have to be the two biggest killers of wealth I know.
Remember back in November last year I warned against trying to pick lows on BHP and Slater & Gordon, which were very topical and tempting from internet forums to the phone lines in our office of clients wanting to buy these stocks. BHP since then fell from $21 to $14. The market didn’t understand the seriousness of the situation then and they don’t understand the risks now for the banks.
