The big four ASX banks of Commonwealth Bank of Australia (ASX: CBA), Westpac Banking Corp (ASX: WBC), Australia and New Zealand Banking Group (ASX: ANZ) and National Australia Bank Ltd (ASX: NAB) have a problem.
According to a report in the Australian Financial Review, analysis done by Macquarie Group Ltd (ASX: MQG) shows that at least 4% of mortgage borrowers are in negative equity.
What this means is that the loan balance is higher than the property value.
Some investors have said for a while that the major ASX banks are relatively shielded from a housing downturn because borrowers have a healthy buffer of equity, but this is disappearing with every passing month.
Even if a bank has to take control of a property because a borrower isn't paying, it's okay for the bank in a positive equity situation because the bank will still get the money back after selling the property, but with negative equity the bank doesn't recoup the whole loan back, leading to a painful loss for the bank.
Lender's mortgage insurance may somewhat cushion the blow, but Macquarie's analysis shows that bank profits could be hit by as much as 10% if only 1% of loans default. You may recall that in recent bank results, the mortgage 90+ day arrears figure is steadily ticking upwards towards that 1% number. For example, CBA reported its 90+ day arrears was 0.71% of loans at March 2019.
Macquarie said that of ANZ's loans, 5% were in negative equity and CBA's negative equity loans could be as high as 4.2%. The stats for NAB and Westpac were harder to analyse.
As long as people keep paying their mortgage payment every month then I don't think a catastrophe can happen for the banks.
Foolish takeaway
However, when you look at rising 90+ day arrears, falling house prices, rising unemployment and the effects of the royal commission (including remediation), I am not highly confident of the banks being market-beaters at today's prices for the next few years.
