Readers who like to keep up to date on the broader economy will probably have seen some of Fairfax's media coverage from Wednesday's The Australian Financial Review Banking & Wealth Summit.
Fool.com.au has covered some of the assertions made during the summit, including the idea that returns of 10%p.a. have been consigned to the history books, and the challenges that retirees face in a low-interest rate environment.
One of the most recently floated – but not new – ideas involves forcing big banks like Commonwealth Bank of Australia (ASX: CBA) and National Australia Bank Ltd. (ASX: NAB) to raise more capital to insulate them from shocks to the lending system.
Since a majority of bank funding is derived from overseas (with many local investors withdrawing their savings to chase higher returns in shares and property), shocks to local markets could see overseas funds dry up, putting banks in a challenging liquidity position.
Additionally, even though regulators are talking about clamping down on property lending in overheated areas, Rob Mead of US bond company PIMCO pointed out in a recent blog post that this only reduced the risk posed by new mortgages, not the many that are already in the system.
His solution? Commbank, NAB, Westpac Banking Corp (ASX: WBC), and Australia and New Zealand Banking Group (ASX: ANZ) should all raise capital by issuing common shares.
On the face of it, the idea has a lot of merit as stricter bank controls seem like a given, sooner or later. Bank shares are also trading at all-time highs, meaning the maximum capital can be extracted from the minimum number of shares.
Once increased regulation comes in and/or profit growth slows, share prices will fall – probably rapidly – meaning more shares must be issued to receive the same amount of capital, which in turn means that earnings per share will struggle more in future years as earnings are diluted by a greater amount.
But as many market commentators have pointed out, the banks are led by chiefs who are driven by incentives and performance bonuses that encourage them to increase earnings and total shareholder returns.
Not only would issuing shares crimp earnings and possibly prices, it could put a big hole in executive pay packets through missed performance bonuses.
Raising capital right now isn't a panacea approach either, as retail shareholders run the very real risk of getting stiffed by buying more highly expensive, overvalued shares.
As many Foolish contributors have suggested, it might be a good idea to look at selling your bank shares, avoid any capital raisings, and channel those funds into a sterling collection of dividend-paying growth shares.
