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Are retail deposit rates in NZ about to head higher?

14 June 2016
The mention of the words “banking regulation” is enough to send anyone off to sleep. But without a doubt it has had, and continues to have, a significant impact on financial markets since the GFC. For this reason we can’t ignore it. 
Last week I realised the New Zealand subsidiaries of the Aussie major banks had fallen victim to yet another, not insignificant, ‘tweak’ to regulation which I think is worth sharing. This is because it has  the potential to impact term deposit pricing, NZ dollar bond issuance, and the cost of borrowing for both consumers and corporates. 
What has changed?
The major banks in New Zealand have two key regulators:  the Reserve Bank of New Zealand (RBNZ) and the Australian Prudential Regulation Authority (APRA). Several years ago the RBNZ introduced a banking resolution framework (Open Bank Resolution, or OBR), the purpose of which was to ensure bank shareholders and depositors, rather than tax payers, would bear the brunt of a banking crisis.
With this in mind, and following discussions with the RBNZ, APRA has made a policy decision to adjust the financial assistance caps applying to New Zealand for all Australian banks. As a result of the change, New Zealand branch mortgages (parent entity) will need to be taken onto the New Zealand banking subsidiary’s own balance sheet, with the New Zealand arms borrowing more to repay the parent.
What does this mean?
ANZ in particular will have an additional amount to borrow from depositors or capital markets to the tune of $1.6 billion pa from 1 January 2016 until 2021, over and above what they need to fund growth (and this is also rising). This could put pressure on deposit pricing and funding costs in New Zealand, especially in light of the amount of bonds maturing in 2017 and 2018 (see chart below). Westpac will also have a larger task, but have said this is only $500 million in total. 

Source: Bloomberg, AMP Capital
Is there likely to be a rating impact?
We take comfort from the fact that rating agencies haven’t responded. But arguably this highlights that investors cannot ignore regulation. 
Parent support is a key factor rating agencies consider with regards to the New Zealand subsidiary bank ratings. This has been diluted somewhat, but importantly is still permitted as both hybrid capital and secured funding (such as covered bonds) are excluded from the ‘routine exposure’ cap.
If willing and able, the Australian parent bank can still therefore provide both capital and secured funding support to the New Zealand subsidiary bank in a crisis. Phew! But… it also means that non-equity funding must be secured, i.e. the parent bank must be more certain of repayment. 

It’s the fact that the weight of secured funding is low in New Zealand that has saved us from a downgrade.

This blog post has been prepared to provide general information and does not constitute 'financial advice' for the purposes of the Financial Advisors Act 2008 (Act). An individual investor should, before making any investment decisions, consider the information available in the relevant Product Disclosure Statement and seek professional advice. While every care has been taken in the preparation of this document, AMP Capital Investors (New Zealand) Limited and the AMP Group (together, 'AMP') make no guarantee that the information supplied is accurate, complete or timely and do not make any warranties or representations in respect of results gained from its use. The information is not intended to infer that current or past returns are indicative of future returns. The views expressed are those of the author and do not necessarily reflect those of AMP. These views are subject to change depending on market conditions and other factors.

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This doesn't substantially change the quality of balance sheet lending, but does increases refinancing risk for the NZ banks as they will now have more funding to do. They may chose to compete for deposits if credit growth is greater than term deposit growth and if offshore markets are less issuer friendly later in the year. We'd also expect to see more issuance domestically. Whether this is passed on to borrowers is a good question. Our banks are quite competitive which may mean this negatively impacts bank margins rather than posing a risk to borrowers. Equally what the RBNZ ultimately does (or doesn't do) could impact mortgage rates. If we see deposit pressure but the OCR (the RBNZ still has an easing bias) moves lower, the impact to borrowers I expect would be limited. KiwiBank isn't regulated by Apra and therefore isn't impacted by Apra's decision. However if we see competition for deposits they too would have to compete for that same pool of deposits.
Posted by Vicky Hyde-Smith 14 June 2016 01:28 p.m.
Thanks for this update. This is significant in that (as I understand it) it is moving risk from the parent to the branch. This regulatory squeeze seems likely to increase risk and interest rates for both borrowers and lenders - of the Australian banks that is! Will KiwiBank also have to increase deposit (and therefore lending) rates just to remain competitive? Bernard Long
Posted by Bernard Long 14 June 2016 10:37 a.m.
Fixed income
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