Bank shares: Time to buy or sell? David Shapiro, Adrian Saville weigh in

FirstRand – which owns FNB, RMB and Wesbank – reported a 38% drop in normalised profit for the year earlier this month. Hundreds of South Africans have been drowning in unpaid bills thanks to a harsh lockdown which caused many to lose their jobs or take pay cuts. As a result, the group increased provisions to cover bad debts relating to Covid-19 by over R15bn. It has since written off over R24bn in bad-debt credit impairments. It’s not the only South African bank to feel the effects of Covid. In a Rational Radio webinar, BizNews founder Alec Hogg is joined by South Africa’s favourite market commentator David Shapiro and chief executive at Cannon Asset Managers Adrian Saville to discuss the issues surrounding South African bank shares. – Claire Badenhorst

Alec Hogg: We’re going to be going back over the past week with David and Adrian on the major investment-related information and we’ll be asking questions of them on that. I guess the feature of last week was banking shares. In the questions that we get in our monthly portfolio, we often get asked about South African banking shares. David – the honour of kicking off – what did you think of those bank results, and is it time now to follow Kokkie Kooyman into them?

David Shapiro: I don’t know if Kokkie’s going into local bank shares; he’s certainly going into global bank shares. I’m very worried about the bank results, particularly the size of the provision that they are making against impairments. In other words, you know, if you look at modern accounting standards, you have to look forward and make provisions against what you think are going to be non-payments. I’m a great believer that your balance sheet and your financial statement should represent what the company believes it’s worth now. In other words, not finessing it to a point where you can write off assets and hopefully recover them somewhere down the line.

So, if this is a true reflection of what banks see as unfolding in the future, then it’s a very worrying scene that we are seeing. And I think they express it in the commentary, you know, the worries about individuals losing their jobs, not being able to pay, in other words, really living – I wouldn’t say on the breadline – but we’re living under very difficult circumstances. And it also reflects on the economy so I’m cautious about where the banks are at the moment.

The share prices are holding. I’m not questioning that. But, you know, this might be the bottom in terms of a share price, but that doesn’t mean that it’s necessarily the bottom of the market. And I don’t expect a massive and quick turnaround soon. So, I’m very cautious about the financial numbers that we saw last week.

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Adrian Saville: Alec, we’ve recently finished a piece of work which assesses the vulnerability or sensitivity of industries to economic circumstances. From a revenue perspective it’s almost self-evident. Who’s going to be hurt the most or lifted the most in depressed or buoyant circumstances? You know, the miners; the commodity businesses; the resource companies are at the leading edge or the bleeding edge in downtimes, and they get wind beneath their wings in uptimes.

Financials sit with a degree of defensiveness because a lot of your book is established and it’s annuity and nature rather than transactional. That’s the nature of the industry. But the standout feature for us in this work – and we’re talking about global banks here rather than South African banks – but the standout feature is that bank earnings are very reactionary and extremely sensitive to economic circumstances. And this is because non-performing loans – when they come – are out of your hands. And I think that the South African environment, as stressed as it is, what worries me in the banking circumstance is there have been periods of forgiveness and a little bit of support and relief and payment holidays, and that reflects, to some extent, what’s happening globally. But I’m not sure that we’ve seen the full extent yet. And to the extent that we have seen what’s coming, it’s concerning. I think banks have got some hard yards to do.

That’s interesting because there is another opinion that the banks have actually written off more than what they needed to. In other words, they’ve been very conservative. From what you are outlining, Adrian, that wouldn’t be your view.

Can I give you the economist’s answer and say yes, I think some of them have been reasonably front-footish and I think ABSA stands out as having been on that side of the spectrum. Others – I would put a bigger question mark over.

The real difficulty in this environment is visibility is so poor that it really is hard to know what this time next year is gonna look like. Can we really believe that the domestic economy is going to have some bounce factor, that the infrastructure spend is on its way, that some of those important policy initiatives are about to be implemented, and that ease of doing business is going to lift, and so on? When the visibility is just so poor it’s not easy to know what to make of these bank numbers.

David, I’m going to pick up on the screen now because the FirstRand stock has been an outperformer for most of the time that we’ve been covering the banks in the last five, 7, 10 years, really. However, it’s still around half the price, little over half the price of where it was pre Covid. Now, if Covid has wiped out half of the value of FirstRand, then this is a reasonable decision by Mr market. But if not, then surely we’re looking at a stock here that for the long term must be offering some value.

It’s hard to determine what the long term is. And as Adrian says, visibility is so poor. So, you don’t know what that long term is going to look like. There’s another factor which is fascinating, Alec, and you probably talk about it all the time – the emergence of alternative banks or other factors in this area, and other businesses that are now covering lending, covering investment, covering so many other areas of the market against which they are going to find challenges. And you might find in these times where banks are very nervous and very cautious, other people are stepping in and starting to lend money to those businesses under stress in much more innovative ways.

My worry is that if you looked at that long chart, we’ve been going sideways for some time now. So, there’s no breakout. It doesn’t look like sentiment is changing or people feel that sentiment is going to change. And that’s why I’m saying: exercise caution.

I trust the market in the sense that people actually take money out of their back pocket, or invest and take money out their back pockets, and make a decision. You know, we don’t write reports. It’s very easy to write reports. It’s another thing to actually invest in the company. So, I’m cautious for the very fact that we can’t look backwards. We can’t go back in history and assume that there’s going to be reversion to the mean or that history is going to repeat itself. So, I think in the circumstances we find ourselves here, particularly with the outcome of the lockdown, I remain very, very cautious. If you don’t need to do anything now, I would remain out and see what the so-called long term future is or how the long term actually unfolds before we make a decision.

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It’s six and a half years since the share price has been at this level. So, you’re buying FirstRand or the company it was in 2014. That’s going to be a lot of loss to these smaller banks. Adrian?

Alec, I was just gonna make the point in passing that you’re absolutely right. I mean this is a high-quality bank that’s had a substantial fall and it’s taken us back a long way in terms of price. There are other big banks that have fallen by about the same on even less demanding valuations. In particular, Nedbank and ABSA are trading at less than their book value, which allows you some margin of error.

To Dave’s point about, you know, it’s hard to know what’s in the price and what’s not in the price, you know, who’s putting their hand in their pockets and putting money on the table. And if those hands are to be believed, if the pockets are deep, then move on. You’re buying banks at less than their net asset value. In the long term, that’s a really good entry point for banks.

  • The full Rational Radio webinar, which includes Aspen CEO Stephen Saad, can be found here