Transurban's yield compression a signal for bank investors – The Australian Financial Review


Chief executive Scott Charlton on Tuesday released a fiscal 2017 distribution forecast of 50.5¢, or 11 per cent higher than 2016. That was higher than market expectations.

David Rowe

As our politicians work towards making the big four banks function like utilities it is worth looking at how the market is valuing one of the country’s best performing utility style stocks, Transurban.

This is a worthwhile exercise because it points to the prospect of Australia’s big four banks going through a re-rating process over the next six to 12 months.

Transurban, which is the country’s largest toll road operator, delivered another strong result.

Toll revenue rose 17.5 per cent to $1.9 billion, earnings before interest, tax, depreciation and amortisation rose 37.5 per cent to $1.39 billion and free cash jumped 20.6 per cent to $926 million.

But the number that was most eagerly awaited by investors was the forecast distribution for the year.

Chief executive Scott Charlton on Tuesday released a fiscal 2017 distribution forecast of 50.5¢, or 11 per cent higher than 2016. That was higher than market expectations.

Transurban shares were trading at about $12.16 on Tuesday lunchtime. That suggests a yield for the year ahead of 4.2 per cent.

Comparing that yield to the yield offered by the banks should carry a few caveats.

Transurban has a portfolio of assets which crank up toll revenue every quarter at a rate equivalent to inflation or, in many cases, in excess of inflation.

That provides some level of protection in relation to future earnings. Also, the company has hedged about 98 per cent of its $12 billion in debt against changes in interest rates.

Banks are subject to many more exogenous forces than a toll road operator. They are vulnerable to changes in economic conditions which could affect default rates and levels of bad debts.

Loan growth is essential for top line growth in a market which is actually quite competitive.

Notwithstanding these differences there are lessons from the Transurban result in a world where investors are chasing yield.

The big four banks are currently offering the following yields before the impact of franking credits: ANZ Banking Group 6 per cent, Commonwealth Bank of Australia 5.3 per cent, National Australia Bank 7.4 per cent and Westpac Banking Corp 6.1 per cent.

The addition of franking credits takes the gross yields to a range of between 7 per cent and 9 per cent.

The yields published here are based on the consensus dividend forecasts in the market from a range of brokers.

The recent cut in official interest rates by the Reserve Bank of Australia was a reminder of the increased downward pressure on yields.

If the market continues to hunt for yield that will inevitably attract more investors to the bank stocks. The banks may have to raise more capital but it is possible that this could occur through organic capital generation such as dividend reinvestment plans.

Applying the Transurban valuation methodology to banks requires awareness of the different risks facing banking and toll roads.

But the willingness of investors to pay up for yield points to yield compress in banking which, in turn, means capital gains for those holding bank stocks.

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