CBA rerated

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Commonwealth Bank may have to pay fines worth up to $1.4 billion, if the money laundering case against it is proved, but its big stock price fall and resulting high dividend yield have put it back on some ‘buy’ lists.

In a note issued last week, Macquarie Securities upgraded Commonwealth Bank from ‘underperform’ to ‘neutral’ and Morningstar has moved its rating from ‘hold’ to ‘accumulate’

CBA’s historical price-to-earnings premium of 10 to 15 per cent over the other big banks has been eroded over the past few months, with the bank now trading on a similar multiple to its peers.

From a peak of $95.80 a share in March, the bank’s share price fell 23 per cent to a low of $73.98 earlier this month before recovering to its current level of around $76.

Macquarie says: “While we recognise that regulatory issues and near-term management instability are likely to continue to weigh on investor sentiment, we believe CBA’s sector leading return profile will ultimately provide valuation support.”

The timing of recent mortgage repricing provides a “material tailwind” to current year earnings, according to Macquarie, which estimates a revenue uplift of around $900 million from higher mortgage rates.

On the other hand, the bank’s expenses will grow more than the other big banks because of the likely need to make “investments relating to regulatory issues”. The additional spend is in the order of $130 million.

On top of that, fines relating to Austrac money laundering case could be in the order of $1.4 billion – equal to 20 basis points of capital.

“While we recognise the risk of near-term underperformance from operational disruptions or larger than expected fines, current valuations are looking more appealing. It is too early to have an ‘outperform’ recommendation on the stock but an ‘underperform’ is increasingly difficult to justify,” Macquarie says.

Macquarie is forecasting that the bank will report no growth in earnings per share in the current year and will suffer a 0.4 per cent fall in earnings per share in 2018/19.

On the positive side, the dividend yield is now around 6 per cent, which could be an incentive for retail investors to buy.

In its note on the bank, Morningstar says: “CBA is attractively priced, trading 11 per cent below our $85 fair value estimate and with a 5.7 per cent fully franked forecast 2017/18 dividend yield, grossing up to 8.1 per cent.”

Despite significant reputation damage incurred during the past six weeks, it is important to remain focused on the bank’s long track record of strong underlying operating performance, Morningstar says.

Last month, UBS, which has a ‘neutral’ recommendation on the bank’s stock, said: “We continue to see CBA as one of the world’s premium banking franchises. However, we believe the money laundering allegations are likely to be an ongoing drag on its reputation, provide unwanted management distraction and lead to elevated costs.

“It also increases the likelihood of a royal commission, which could potentially have a materially detrimental impact on shareholder value.

“The money laundering allegations highlight the increased level of operating risk facing the major banks. While digitisation provides an opportunity for cost reduction, it also brings higher risks from operational failures, coding errors, cyber hacking and so on.”

 

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