SIMON RAUBENHEIMER: Low Absa price: earnings has scent of opportunity
Our major banks have all grown their earnings faster than the market over the long term, and the banking sector overall has done well for all stakeholders. Weak economic growth and political instability are legitimate concerns.
Rating downgrades carry real economic consequences for banks through higher costs of capital and lower returns on equity. However, these concerns are well known and widely publicised.
Importantly, however, the fundamentals underpinning the South African banking system have not changed. The sector remains a small, conservative and tightly regulated industry operating in a largely closed currency system.
The performance of our banks during the global financial crisis is a testament to the stability of our banking system. In early 2009, at the trough of the crisis, the 320-year old Barclays plc (excluding its stake in Absa) - with more than 100,000 employees around the world and assets of £1.3-trillion - had a market value lower than Absa's (which at the time had total assets of only £60-billion). Just seven years prior to this, Barclays plc was 35 times bigger than Absa.
Slow growth in credit extension and asset prices in South Africa, conservative provisioning, increased regulation and long-term upside to financial penetration are among the factors suggesting that current banking industry profits are not high.
The earnings growth of Barclays Group Africa (BGA) has lagged its competitors by a few percentage points every year over the past five years. With hindsight, the bank made a few strategic errors and clients moved their accounts elsewhere.
BGA's challenge now is to reignite some growth in its top line. It has a big market share in critical areas but is losing ground to competitors.
Tough times can have a silver lining if they gift us the opportunity to buy assets at bargain prices. This might classify as one such opportunity: our recent investment in BGA was at a multiple of 7.5 times its most recent earnings and a dividend yield of 7.8%. It is not every day that one sees dividend yields higher than price-to-earnings ratios on the JSE.
Absa's p:e ratio has been lower than its dividend yield on only three occasions in the history we have for the bank (or predecessor United Bank, given that Absa was established only in 1991). All those times were characterised by massive uncertainty and investor distress. And, in all cases, investors would have done well over the subsequent three to four years.
BGA's p:e ratio is currently at a 60% discount to the average company listed in South Africa - a level seen only twice before (1994 and 2008). Similarly, its dividend yield is 1.7 times the dividend yield of the average company, matched only in 1994 and 2008.
There is indeed some evidence of matters slowly improving but it takes a long time to turn a big ship around. The market doesn't believe in BGA's recovery, and expectations are low. As a long-term investor, this negative sentiment is in our favour.
It is impossible to predict market movements accurately or to foresee a sudden opportunity. But we know that, from time to time, the unexpected happens, and we need to be prepared.
• Raubenheimer is a portfolio manager at Allan Gray. The Allan Gray Investment Summit takes place on August 31