- Westpac Banking Corp (WBC), as part of an unscheduled 1Q19 trading update, has announced unaudited cash earnings of $2.04bn. The outcome looks a little softer than consensus, due to higher general insurance claims and weaker Treasury and Markets income.
- It appears that the Net Interest Margin (NIM) was dragged down in 1Q19 by particularly soft Treasury income. An increase in switchings (both contractual and discretionary) from interest-only to P&I also contributed to NIM softness in 1Q19.
- Asset quality was broadly stable, and the capital position looks comfortable.
- WBC remains our preferred major bank.
Particularly soft Treasury income drags on NIM
The trading update implies to us that 1Q19 revenue was softer than we expected largely due to weaker Treasury and Markets income and $30m pre-tax in insurance claims for Sydney hailstorms. Westpac has said that an additional $35m pre-tax in claims costs (after reinsurance) are expected from the recent Queensland floods in 2Q19. We were expecting a 7bps uplift in NIM from 2H18 to 1H19 largely due to home loan repricings and because we were not building in additional remediation charges, however it appears that the NIM uplift in 1Q19 was less than we expected despite no material remediation charges being booked in 1Q19. We understand that Treasury income was particularly soft in 1Q19 and this was a drag on NIM; the upside to this appears to be a commensurate reduction in RWA for interest rate risk in the banking book.
Asset quality broadly stable
The 1Q19 credit impairment charge of $204m is a little better than we expected. In overall terms, asset quality was broadly stable from Sep-18 to Dec-18. Stressed exposures as a percentage of total committed exposures declined from 1.15% at start-1Q19 to 1.14% at end-1Q19; within this movement, impaired assets were flat; watchlist & substandard exposures were down 3bps; and 90+ day arrears were up 2bps. Australian mortgage 90+ day delinquencies increased from 72bps at Sep-18 to 76bps at Dec-18. Westpac has said that this increase was driven in part by operational issues in collections, as well as a rise in arrears in WA and NSW.
Assuming $100m of remediation charges in 2Q19
No material remediation charges (or associated costs) were booked in 1Q19, however WBC has said that additional charges are likely to be incurred in 2Q19. We are allowing for remediation charges of $100m (pre-tax) in 2Q19 through the expenses line.
Investment view and changes to forecasts
We have reduced our cash EPS forecasts by 4.6% in FY19F, 4.4% in FY20F and 5.1% in FY21F, largely due to lower revenue forecasts. FY19F cash earnings per share has also been reduced by the assumption of a $100m (pre-tax) remediation charge in 2Q19.
Key downside risks include a material increase in funding costs and greater-than-expected asset quality deterioration. Westpac Banking Corp remains our preferred major bank. We retain an Add recommendation.
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