How NZ’s Financial Services Sector Will Survive Higher Inflationary Environment – 2 Stocks to Consider

Company Overview:

Westpac Banking Corporation (NZX: WBC) is the banking company which provides a range of consumer, business as well as institutional banking and wealth management services through the portfolio of financial services brands and businesses. Kingfish Limited (NZX: KFL) is the listed investment company that invests in growing New Zealand companies.

Kalkine’s Sector Report covers the Investment Highlights, Key Financial Metrics, Risks, Outlook, Technical Analysis along with the Valuation, Target Price, and Recommendation on the stock.

1. Sector Landscape and Outlook

Recently, The Monetary Policy Committee decided to hold the official cash rate (or OCR) at 5.50% and it was mentioned that interest rates are constraining the economic activity as well as reducing the inflationary pressure as required. Demand growth in the broader economy continues to ease. Even though the GDP growth for the quarter ended June was stronger than expected, the growth outlook was subdued. With restrictive monetary conditions, spending growth is anticipated to decline further. On a global basis, economic growth was below trend and headline inflation eased for most of the country’s trading partners. The core inflation eased, but to the lesser extent. Notably, weakening global demand is impacting NZ export volumes and prices. Apart from oil, global import prices eased.

While the imbalance between demand and supply is moderating in the broader NZ economy, the prolonged period of subdued activity was needed to reduce inflationary pressure. The Committee agreed that the OCR is required to stay at the restrictive level in order to make sure that annual consumer price inflation returns to the 1% - 3% target range as well as to support maximum sustainable employment.

The 2022-2023 financial year was the very first year under the new RBNZ Act 2021. After the commencement of RBNZ Act 2021, the new Decision Making Policy got approved by the Board in order to define the authorities for day-to-day decision making as well as make sure the best-practice governance of the balance sheet.

Rise in Total Housing Lending Stock

As per RBNZ, the housing lending stock rose by $968 Mn (or 0.3%) in the month of August 2023, which was the second largest monthly increase in 2023. The annual growth rate was constant at 3.0%. The personal consumer lending stock witnessed an increase of $13 Mn (or 0.1%) in the month of August 2023. This increase was because of NBLIs who witnessed increase of $28 Mn (or 0.4%), their largest monthly increase in 2023. Notably, the annual growth rate rose further from 5.1% to 5.4% as well as remained highest among major lending sectors.

The business lending stock rose $395 Mn (or 0.3%) in the month of August 2023, however, total lending stock was still down by $983 Mn since the start of the year. Annual growth continued to approach the negatives, down from 2.1% to 1.8%. The agriculture lending stock fell $249 Mn (or 0.4%), after witnessing robust increases over the past 3 months.

Exhibit 1: Lending Pattern– Banks and NBLIs

Data Source: This work is based on/includes rbnz data which are licensed by rbnz.govt.nz for reuse under the Creative Commons Attribution 4.0 International Licence; Chart Created by Kalkine Group

Credit Card Spending Patterns

As per credit card summary release dated 20 October 2023 by RBNZ, seasonally adjusted total billings in New Zealand stood at $4.5 Bn during September 2023, similar to the previous month, but reflecting a rise of 3.3% from September 2022. The seasonally adjusted domestic billings on New Zealand issued cards were $4.0 Bn in September 2023 month, reflecting a rise of 1.8% from September 2022 and overseas billings on NZ issued cards were similar to last month at $0.6 Bn, with an annual increase of 20.7%.

The billings on overseas issued cards utilised in NZ were also similar to last month at $0.5 Bn, with an increase of 13.3% from September 2022. The proportion of personal advances outstanding which were interest-bearing rose marginally from 52.2% at the end of July 2023 to 52.6% at the end of August 2023 (this data is lagged by 1 month).

Exhibit 2: Credit Card Spending Patterns (NZD Mn)

Data Source: This work is based on/includes rbnz data which are licensed by rbnz.govt.nz for reuse under the Creative Commons Attribution 4.0 International Licence; Chart Analysis by Kalkine Group

New Credit Flows Statistics

RBNZ has released new credit flows statistics (dated 5^th October 2023), in which it was mentioned that there was $9.7 Bn of total new lending in the month of August, reflecting a rise of 7.9% from $9.0 Bn in July. As compared to August 2022, total new lending fell ~6.0% from $10.3 Bn. Notably, the total monthly new residential lending stood at $5.7 Bn in August, reflecting a rise of 10.5% from $5.2 Bn in July.

As compared to August 2022, the total monthly new residential lending rose 2.2% from $5.6 Bn. This was the first month of 2023 to witness an annual increase. The share of total new residential lending on fixed interest rate terms rose to 81.9%, up from 81.7% in the month of July. The share on floating terms declined to 18.1%. This was the lowest share on record.

Key Risks and Challenges:

In the 2022- 2023 financial year, the Reserve Bank of New Zealand operated in the complex as well as challenging economic environment, with significant inflationary pressures domestically and internationally, along with labour shortages and volatility in the broader financial markets. The impacts of major disruptions to the entire global economy – because of COVID-19 pandemic, war and geopolitics, climate change and related policy responses –  was felt.

The higher interest-rate environment exposed some of the fragilities in the global financial system, mainly where risks were inadequately managed. NZ households as well as businesses witnessed higher debt-servicing costs because their borrowing repriced to increased interest rates. However, there have been limited signs regarding the distress in banks’ lending portfolios.

Exhibit 3. Key Risks in Financial Sector:

Source: Analysis by Kalkine Group

Outlook:

As per RBNZ’s annual report 2023, its response to the economic impacts of COVID-19 in early 2020 shaped the current balance sheet. The Reserve Bank launched the range of additional monetary policy tools in order to give increased stimulus to the NZ economy as well as to support the smooth functioning of NZ’s financial markets.

The additional monetary policy tools, such as  LSAP and the FLP, drove growth in its balance sheet, with total assets of $88.9 Bn as at 30^th June 2023 as compared to $42.3 Bn at March 2020 (pre-COVID-19). In the previous financial year, additional lending from the FLP (which closed in December 2022) was partially offset by the maturities and planned annual LSAP securities sales of $5 Bn. Moving forward, the bank is currently expecting to witness the continued slowing in domestic demand as well as moderation in core inflation and inflation expectations. The extent of this moderation would be determining the direction of future monetary policy, and accordingly the size and nature of the tools on the bank’s balance sheet.

Reserve Bank of NZ continued to engage with the range of long-term strategic issues which includes the impact of climate change on the financial system as well as economy more generally, the future of money and role of digital currencies, financial inclusion and Maori access to capital.

Apart from the sector-specific factors, an analysis on 2 NZX-listed companies is provided. This report covers their insights, outlook, performance and potential as expected to be delivered in the near to medium term.

1) Westpac Banking Corporation (Recommendation: Buy, Potential Upside: Low Double-Digit) (M-Cap: NZD 78.6 billion, Annual Dividend Yield (TTM)¹: 7.11%)

Business Description:

Westpac Banking Corporation (NZX: WBC) is the banking company which provides a range of consumer, business as well as institutional banking and wealth management services through the portfolio of financial services brands and businesses.

Outlook:

WBC announced that its reported NPAT in FY 2023 would be reduced by $173 Mn because of notable items, significantly lower than FY 2022 notable items of $874 Mn. The net impact of these notable items was to reduce the Common Equity Tier 1 capital ratio by 4 basis points. The FY 2023 notable items comprise of sale of the advance asset management business - $256 Mn profit, restructuring costs associated with organisational simplification as well as the discontinuance of specialist businesses - $140 Mn loss, among others.

Valuation Methodology: Price/BV Per Share Based Relative Valuation (Illustrative)

Technical Overview:

Daily Price Chart

WBC Daily Technical Chart, Data Source: REFINITIV

Technical Commentary

On the daily chart, WBC’s stock prices are forming a trading range characterized by lower highs and higher lows, suggesting that the sideways period on the stock might continue to persist in the near future. Moreover, the momentum oscillator RSI (14-period) is fluctuating near the midpoint, adding further support for the mentioned observation. Prices are fluctuating between its previous peak and trough, which might function as resistance and support levels for the stock. A significant support level for the stock is positioned at NZD 20.2, and the critical resistance level is located at NZD 25.5 NZD.

Stock Recommendation

The stock has been valued using P/BV multiple-based illustrative relative valuation, and the target price so arrived reflects a rise of low double-digit (in % terms).

Considering the facts above, a ‘Buy’ recommendation on the stock has been provided at the closing market price of NZD 22.400 per share, down by 1.10% as on 26 October 2023.

2) Kingfish Limited (Recommendation: Buy, Potential Upside: Low Double-Digit) (M-Cap: NZD 402.2 Mn, Annual Dividend Yield (TTM)¹: 10.02%)

Business Description:

Kingfish Limited (NZX: KFL) is the listed investment company that invests in growing New Zealand companies.

Outlook:

The company released quarterly newsletter (1 July 2023 – 30 September 2023). In the September quarter, it delivered the gross performance return of -4.9% as well as an adjusted NAV return of -5.1% as compared to -5.2% return of the S&P/NZX50 gross index. New Zealand shares lagged other markets in part because of the economic climate remaining tougher locally than offshore.

Notwithstanding the changeable market conditions, the company’s Directors are confident in the strategy of focusing towards well-managed, quality businesses, whose sustainable competitive advantages enable them to adapt as well as respond to ever-changing environment in the medium to long term.

Technical Overview:

Technical Commentary

While experiencing a downtrend, KFL’s stock prices are forming a bottom divergence in relation to the relative strength indicator, anticipating a potentially minor rebound. Moreover, the momentum oscillator RSI (14-period) is trading near the oversold region, adding further support for the previous analysis. Prices are trading below the trend-following indicator 21-period SMA, which might serve as a dynamic resistance level for the stock; in contrast, the stock’s nearest round level might act as sentimental support. An import support level for the stock is situated at NZD 1.10, and a critical resistance level is located at NZD 1.30.

Stock Recommendation

Considering the facts above, a ‘Buy’ recommendation on the stock has been provided at the closing market price of NZD 1.20 per share, down by 1.64% as on 26^th October 2023.

Note 1: Past performance is not a reliable indicator of future performance.

Note 2: The reference date for all price data, currency, technical indicators, support, and resistance levels is October 26, 2023. The reference data in this report has been partly sourced from REFINITIV.

Note 3: Investment decisions should be made depending on an individual's appetite for upside potential, risks, holding duration, and any previous holdings. An 'Exit' from the stock can be considered if the Target Price mentioned as per the Valuation and or the technical levels provided has been achieved and is subject to the factors discussed above.

Note 4:  Annual Dividend Yield is on a Trailing Twelve Month (TTM¹) basis and are subject to change based on factors such as company performance, stock price changes, etc.

Disclaimer: Kalkine New Zealand Limited’s (Kalkine) Director Kunal Sawhney owns shares of Westpac Banking Corporation since December 2021. Kalkine has recommended Westpac Banking Corporation in its report as general advice only (under FSP Number FSP691351).

Technical Indicators Defined: -

Support: A level at which the stock prices tend to find support if they are falling, and a downtrend may take a pause backed by demand or buying interest. Support 1 refers to the nearby support level for the stock and if the price breaches the level, then Support 2 may act as the crucial support level for the stock.

Resistance: A level at which the stock prices tend to find resistance when they are rising, and an uptrend may take a pause due to profit booking or selling interest. Resistance 1 refers to the nearby resistance level for the stock and if the price surpasses the level, then Resistance 2 may act as the crucial resistance level for the stock.

Stop-loss: It is a level to protect further losses in case of unfavourable movement in the stock prices.

Disclaimer

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