The Daily Update - Australia

Earlier this week, Moody’s downgraded the big four Australian banks’ ratings to Aa3 from Aa2 commenting that ‘elevated risks within the household sector heighten the sensitivity of Australian banks' credit profiles to an adverse shock, notwithstanding improvements in their capital and liquidity in recent years.  While Moody's does not anticipate a sharp housing downturn as a core scenario, the tail risk represented by increased household sector indebtedness becomes a material consideration in the context of the very high ratings assigned to Australian banks.’

For Moody’s ‘significant house price appreciation’, combined with a very high level of household debt, (188.7% household debt to disposable income at the end of 2016), and low nominal income growth has increased the risks associated with the sector.  Moody’s take the view that ‘capital adequacy is likely to strengthen further’ but that ‘the resilience of household balance sheets and, consequently, bank portfolios to a serious economic downturn has not been tested at these levels of private sector indebtedness.’

Interestingly, last month S&P left the four major banks’ ratings unchanged helped by a very high likelihood of sovereign support but adjusted down the ratings of some smaller banks.  However, S&P left the majors’ rating outlook as negative: if S&P were to adjust down the sovereign rating or their expectations of sovereign support then the banks’ ratings could be adjusted down to reflect this too.  But the rating move by Moody’s is only bringing their bank ratings on the big four in line with the equivalent ratings from S&P or Fitch at AA- so the lower rating should be factored into market pricing to a large extent already.  Estimates suggest a 1 notch downgrade for the banks from AA- by S&P could impact the banks’ long term funding costs by ~10 basis points.

Moody’s still rates the sovereign at AAA (stable).  S&P also rates Australia AAA but with a negative outlook: they acknowledge the sovereign’s risks from high external indebtedness, its vulnerability to commodity export demands, risks to the fiscal consolidation plan and increased risks from the rapid growth of credit and house prices.  A strong fiscal position is important to offset the weak external position and to act as a buffer if the housing market were to enter a sharp downturn, although they note that their base case at this stage is for a softer landing.

Australia is excluded from our investable universe as our estimates show its net foreign liabilities are greater than our cut-off of 50% of GDP, the threshold that IMF research indicates is associated with increasing risk of external crises, making it ‘an avoid’ from an investment point of view.  While it is true that the period of re-leveraging and accommodative monetary policy has supported many weaker debtor nations; the move by central banks, particularly the Fed, to start to reduce stimulus and deleveraging means we prefer to be positioned in higher rated creditor nations at this stage of the cycle.

Please read this important information before proceeding. It contains legal and regulatory notices relevant to the information on this site.

This website provides information about Stratton Street Capital LLP ("Stratton Street"). Stratton Street is authorised and regulated by the UK's Financial Conduct Authority. The content of this website has been prepared by Stratton Street from its records and is believed to be accurate but we do not accept any liability or responsibility in respect of the information of any views expressed herein. The information, material and content provided in the pages of this website may be changed at any time by us. Information on this website may be out of date and may not be updated or removed.

The website is provided for the main purpose of providing generic information on Stratton Street and on our investment philosophy for the use of financial professionals in the United Kingdom that qualify as Professional Clients or Eligible Counterparties under the rules of the United Kingdom Financial Conduct Authority (the "FCA"). The information in this website is not intended for the use of and should not be relied on by any person who would qualify as a Retail Client. Products and services referred to on this website are offered only at times when, and in jurisdictions where, they may be lawfully offered. The information on this website is not directed to any person in the United States. The provision of the information on this website does not constitute an offer to purchase securities to any person in the United States (other than a professional fiduciary acting for the account of a non-U.S person) or to any U.S. person as such term is defined under the Securities Act of 1933, as amended.

The website is not intended to offer investors the opportunity to invest in any Alternative Investment Fund ("AIF") product. The AIFs managed by Stratton Street are not being marketed in the European Economic Area ("EEA") and any eligible potential investor from the EEA who wishes to obtain information on the AIFs will only be provided with materials upon receipt by Stratton Street of an appropriate reverse solicitation request in accordance with the requirements of the EU Alternative Investment Fund Managers Directive ("AIFMD") and national law in their home jurisdiction. By proceeding you confirm that you are not accessing this website in the context of a potential investment by an EEA investor in the AIFs managed by Stratton Street and that you have read, understood and agree to these terms.

No information contained in this website should be deemed to constitute the provision of financial, investment or other professional advice in any way. The website should not be relied upon as including sufficient information to support any investment decision. If you are in doubt as to the appropriate course of action we recommend that you consult your own independent financial adviser, stockbroker, solicitor, accountant or other professional adviser. Past performance is not necessarily a guide to the future. The value of investments and the income from them may go down as well as up. An application for any investment or service referred to on this site may only be made on the basis of the offer document, key features, prospectus or other applicable terms relating to the specific investment or service.

Where we provide hypertext links to other locations on the Internet, we do so for information purposes only. We are not responsible for the content of any other websites or pages linked to or linking to this website. We have not verified the content of any such websites. Such websites may contain products and services that are not authorised in your jurisdiction. Following links to any other websites or pages shall be at your own risk and we shall not be responsible or liable for any damages or in other way in connection with linking.

By using this site, you should be aware that we may disclose any information that we hold about you to any regulatory authority to which we are subject, or to any person legally empowered to require such information.

This website uses cookies to improve user experience, by clicking the "I Accept" button below means you consent to the use of cookies on our website.