I will be discussing here the purchase of 50 shares, a starter position, in the Australia & New Zealand Banking Group, whose ordinary shares are priced in Australian Dollars (hereinafter "AUDs"). I bought the ADR shares using USDs that are available for trading on the U.S. pink sheet exchange.
The primary reasons for this trade are valuation, dividend yield and dividend growth, and diversification. I am also playing long term a potential rebound in the AUD's value against the USD as discussed below.
In the event I add to my Australian bank positions, I will simply update the discussion of the risks outlined below and refer back to this post.
Bought 50 ANZBY at $27.24 (see Disclaimer):
Snapshot of Trade:
1 ADR = 1 Ordinary Share
The Australian stock market had closed when I placed my order. I converted the AUD$35.04 closing price in Australia to arrive at the USD equivalent ADR price:
Five Year Chart-Ordinary Share: ANZ:AU Stock Chart
Company Description: The Australia & New Zealand Banking Group Ltd. (OTCPK:ANZBY) is one of the top four banks based in Australia and is within the top 25 banks globally based on market capitalization.
ANZ is expanding its presence in Asian markets. The compounded annual earnings growth rate in Asia was 37% over the six year period ending 9/30/14: Media Release.pdf The goal is to have Asian sourced revenue to generate 25% to 30% of the group's profit by 2017 (page 22 of Annual Report)
I took a snapshot of the annual reported financial information starting in 2010 through 2014 that shows improving results.
All amounts are expressed in Australian Dollars:
Basic earnings per share increased from $1.789 to $2.671. The dividend increased from $1.26 to $1.78. Tangible book value per share increased by 41.13%. The 2014 tangible book value per share was reported at $14.65. At at AUD$35.05 price, the shares were selling at 2.39 times tangible book.
2014 ROE: 15.8%
2014 ROA: 1%
Net Interest Margin: 2.13% Down 9bps from 2013 (page 16)
2014 Operating Expenses to Operating Income: 44.7% (page 18)
Basel III Common Equity TIER 1: 12.7% (page 20)
ANZ's senior debt is rated AA- by S & P and Aa2 by Moody's. Corporate Overview
Comparison Chart ANZBY vs. ANZ:AU: The following chart highlights both the currency risk and opportunity inherent whenever an investor buys a USD priced ADR. The price of the ADR will reflect the ordinary share price in its local currency converted into USDs.
Over the past year, the AUD has fallen significantly in value against the USD and that decline will flow through into the performance of the USD priced ANZBY causing the ADR to underperform the ordinary shares priced in AUDs.
The AUD/USD hit a high around 1.1035 on 7/28/11. If the ordinary shares had closed at AUD$35.04 that day, the closing price from 2/23/15, the equivalent USD price for the ADR would be $38.6665, or a 42.54% gain in the ADR price just from that increase in the AUD's conversion value into USDs.
By buying the ADR on 2/23/15, I can only say with certainty that the currency risk between 1.1035 and .7846 has been removed from the ADR purchase. I now have the downside risk below .7846 and the upside potential above that number.
Dividends: The dividend growth history is good for a bank, except for the Near Depression period when the dividend was cut. Dividends are paid semi-annually with the first payment made in July with a May record date and the larger amount paid in December.
The dividend growth rate is shown in the following table.
The 2003 annual rate was AUD$.98 which had grown to AUD$1.78 in 2014.
The dividend was cut in the Near Depression period, going from AUD$1.36 in 2007-2008 to AUD$1.02 in 2009. The bank then started to raise the rates in 2010 to the present. The 2011 rate of AUD$1.4 surpassed the annual rate in existence before the slash.
A dividend cut within the past 25 years automatically disqualifies a stock for purchase under my dividend growth strategy. Under the circumstances, the dividend cut was understandable and the dividend rate remained relatively high and considerably better than the 1 cent quarterly rate paid by Citigroup and Bank of America between 2009-2011:
If I assumed a AUD$1.78 dividend rate, with no dividend raises or cuts, and used the conversion value as of 2/15/15, the USD equivalent would be $1.4048 per ADR share or 5.15% based on a total cost per share $27.24. If I assumed a conversion rate of 1.1035, the average for 7/28/11, the USD equivalent would be $1.9642 or 7.21% based on the same assumption except for the currency exchange rate. I do not anticipate a return to a 1 for 1 parity anytime soon. The AUD is viewed by many as a commodity currency, and commodity prices are depressed now. Iron ore, one of Australia's major exports to China, has been smashed in price due to lower demand and more supply. Iron Ore - Monthly Price
The actual amount per ADR share will vary based on the dividend paid in AUDs and the conversion rate from AUDs into USDs. The foregoing just gives me a ballpark kind of guess. The dividend yield would be higher based on the AUD/USD gaining in value above .7892 used for purposes of the preceding hypothetical and will also change based on an increase in the dividend rate above what was paid in 2014.
Foreign Withholding Tax-None As Long as Dividend is "Fully Franked": The snapshot also shows that the dividend payments since 1993 have been "fully franked" which simply means that Australia will not withhold a tax on the dividend payment. Once an Australian corporation pays 30% at the corporate level, there is no tax on the dividend distribution. Australian Taxation Office; Australian taxation of dividends
Recent Earnings Report: Australian banks provide detailed earnings information twice per year. The last detailed report was for the F/Y ending September 30, 2014. The interim report for the Q/E 12/31/14, which is simply called a "trading update", was released in February 2015 and caused a 2% price decline in the shares. Reuters
For the first quarter of the 2015 F/Y, the bank reported an unaudited cash profit of AUD$1.79B, up slightly from AUD$1.73B in the 2014 F/Y first quarter.
Comparison 2014 4th Quarter with 2013 4th Quarter:
More detail is provided in the Investor Presentation. The internationally comparable Tier 1 and total capital ratio were 13.8% and 16.1% as of 12/31/14 (page 4)
The Australian Prudential Regulation Authority apparently has a different formula than Basel III for calculating capital ratios. The following snapshot discloses the differences:
Rationale: I am treading cautiously given the risks discussed below.
The core reasons for this purchase are simply stated as follows:
1. The current dividend yield is close to 5.15%, based on the assumptions outlined in the dividend section above, and ANZ has a long history of dividend raises and one modern era dividend cut.
2. A lot of the currency risk has been eliminated with the AUD/USD at .78. While the AUD could continue to decline, I simply view the balance of the currency risk/reward to tilt in favor of reward at that level. A substantial price gain could be realized by a return to parity assuming no change in the AUD priced ordinary shares.
3. The expansion outside of Australia and New Zealand gives the bank exposure to Asia's growth markets.
4. The bank appears to be adequately capitalized and prudently managed, as shown by its performance in the Near Depression period compared to similar sized institutions in the U.S. and Europe. The 2011 Annual-Report shows a decline in profitability from AUD$ 4.18B (2007) to AUD$2.943B (2009) but the profit then accelerated back to AUD$4.401B in 2010 (page 84). Overall, I view that decline and rebound positively under the circumstances and particularly compared to other large banking institutions in developed markets outside of Canada and Australia.
Risks: I would classify the currency risk and a possible meltdown in Australian property values to be among the primary risks. The currency risk is highlighted by the one year comparison chart shown above.
The concerns about Australian and Canadian banks are similar. The concern involves a potentially dangerous mix of rapidly increasing home prices outpacing growth in real disposable incomes in the context of abnormally high consumer debt levels to disposable income. In Australia, the problem is being aggravated now by banks increasing the number of interest only loans that are more susceptible to defaults. I suspect that is being done to make the payments affordable to some families but that practice needs to stop altogether. It helps to catapult prices higher in an unsustainable manner.
I am not going to summarize those risks in detail and will simply point anyone interested to some recent data:
A number of important charts about household income, debt and net worth can be found in the 2014 Trends in Household Debt published by the Australian Bureau of Statistics. Australian Social Trends, 2014
I took a snapshot of two charts:
That last chart is not similar to the FED's DSR ratio which includes all debt service payments (principal and interest). Household Debt Service Payments as a Percent of Disposable Personal Income -St. Louis Fed
Real household wealth hit $323,000 at the end of 2013. The average real price of residential dwellings was reported at $539,400 as of 12/31/13, up from $500,700 in September 2012.
The biggest increase Y-O-Y in residential home prices was a 12.2% rise in Sydney's. 6416.0 - Residential Property Price Indexes: Eight Capital Cities, Dec 2014
The 2014 household savings rate in Australia was reported at 9.5965%, almost twice as high as the 4.65% for Canadian households, which is one mitigating factor in favor of Australia compared to both Canada and the U.S. Economic Outlook No 96 - November 2014 - OECD Annual Projections : Household saving rates - forecasts
A recent stress test conducted by the Australian regulatory authority highlighted the ability of the Australian banks to weather a significant downturn.
Link to APRA's Stress Test Article: Seeking strength in adversity: Lessons from APRA's 2014 stress test on Australia's largest banks
An ongoing regulatory review may require Australian banks to increase their capital. Bloomberg Business; Murray Financial System Inquiry recommends raising capital requirements for Australian ADIs There are securities other than common stock that meet the equity capital qualifications.
The company describes risks incident to its operations starting at page 197 of its 2014 Annual Report.pdf.
I do not have a target price. I may average down, but not up. Given my assessment of the risks, I doubt that I will accumulate more than 100 shares. I also currently own National Bank of Australia. If I see more prudent home lending practices, and a much needed slowdown in the currently hot property markets, I will consider buying more than that current limit. I also currently own National Bank of Australia, and have traded that stock in the past successfully so far.
Disclosure: The author is long ANZBY.
Additional disclosure: Disclaimer: I am not a financial advisor but simply an individual investor who has been managing my own money since I was a teenager. In this post, I am acting solely as a financial journalist focusing on my own investments. The information contained in this post is not intended to be a complete description or summary of all available data relevant to making an investment decision. Instead, I am merely expressing some of the reasons underlying the purchase or sell of securities. Nothing in this post is intended to constitute investment or legal advice or a recommendation to buy or to sell. All investors need to perform their own due diligence before making any financial decision which requires at a minimum reading original source material available at the SEC and elsewhere. Each investor needs to assess a potential investment taking into account their personal risk tolerances, goals and situational risks. I can only make that kind of assessment for myself and family members.