The only big ASX bank to cut its dividend is National Australia Bank Ltd. (ASX: NAB) but it could soon be joined by another big bank stock.
UBS believes Westpac Banking Corp (ASX: WBC) could be next to trim its dividend for the first time since the global financial crisis, reports the Australian Financial Review.
The broker came to that conclusion following the release of Westpac's half year results in which the bank kept its interim dividend steady at 94 cents per share despite a 22% plunge in cash earnings.
Will WBC's share price be impacted by a dividend cut?
You might wonder if investors would even be bothered by a dividend cut given that NAB's share price has been running higher since it lowered its dividend payment.
The thing is the market had been expecting NAB's dividend cut weeks ahead of the result. It was probably the worst kept secret in the sector. On the other hand, Westpac is in a totally different category as just about every other broker apart from UBS is tipping that Westpac can keep paying the same amount in dividends in FY20 and beyond.
Consensus forecasts are also predicting that Australia and New Zealand Banking Group (ASX: ANZ) and Commonwealth Bank of Australia (ASX: CBA) can also maintain their dividend payments.
More risks to WBC's dividends than other big banks
However, the problem is Westpac is looking more vulnerable to a dividend cut than ANZ Bank or CBA as its dividend payout ratio has surged to 98% for the first half, no thanks to the big profit drop.
While some might say that's due to one-off losses (mainly relating to customer remediation and restructuring), UBS pointed out that the payout ratio would still have jumped to 80% even if these abnormal items were excluded. The payout ratio is the proportion of net profit that's paid out as dividends and 80% is still relatively high.
This means it won't take much to upset the dividend apple cart and there are a few bumps along the road that could cause such a spill.
A dividend cut next year?
The first is Westpac's low bad debt provisions. It's interesting that management didn't think it was necessary to put aside more cash for a potential rise in delinquencies given the housing market slump.
Westpac admitted as much in its results that house prices are likely to fall further and that credit quality won't be improving anytime soon. But if the bank did increase its provisioning, the profit drop would have been worse and the payout ratio would have jumped even higher.
The second issue is that Westpac is the most exposed to the housing loan market and probably has the highest proportion of interest only loans to total lending of all the big four banks. These interest-only loans (IO) issued at the height of the market are maturing and are in the process of transitioning into principle and interest loans (P&I).
Experts agree that the biggest risk of defaults in home loans come from borrowers moving from IO to P&I loans.
UBS has a "sell" recommendation on Westpac and believes the bank will have to drop its dividend to 84 cents a share this time next year.
