At 5% fully franked dividends…just why aren’t the experts recommending we buy bank shares?

Should you deposit your hard earned savings in a bank account earning anywhere from a taxable 1% to 3% (that’s if you really work the banks’ special offers)?

Or should you buy bank shares and receive over 5% in fully franked dividends (that is, on which you’ll pay little or no tax)?

This time last year, bank shares looked relatively cheap but their prices rallied strongly in 2016, leaving analysts, funds managers, and investors wondering if they should still be investing in bank shares.

Fortunately for all investors, as the big four banks represent around 25% of the benchmark S&P/ASX 200 Share Index, they are among the most analysed companies in Australia, and stock brokers have started the year by releasing over 200 pages of banking research.

First and foremost, the reason investors like bank shares is the dividend yield. Currently averaging 5.6%, the yield is extremely attractive compared to at-call or term deposit rates, or even long term bonds, but it’s below the 10 year average of 6.2% and it’s premium to industrial shares is also lower than average. The banks are currently paying a yield 1.1% higher than industrial shares, below the long-term average of 1.2%.

The other problem is that bank share prices are at the upper bounds of their valuation ranges. Analysts look at many indicators of value but the mainstay is the price-to-earnings multiple, the ‘PE ratio’. Australian banks typically range from a PE of 10 to 13 times earnings. Currently the big four are averaging just over 13 times.

So what are the brokers recommending to their clients? It’s not a pretty picture.

Credit Suisse describes the banks as “slightly expensive”, and rank NAB as an “outperform”, maintaining a neutral position on CBA, ANZ and Westpac.

Macquarie says “we see reduced scope for ongoing out-performance”, downgrading ANZ to neutral and preferring NAB and Westpac.

Citi believes last year’s share price rally “left expectations too high” downgrading their views on ANZ, CBA and Westpac.

Morgan Stanley also thinks the banks PE ratios look too high, saying “we see downside risk for the group”, preferring ANZ the most, and CBA and NAB the least.

So the consensus is that right now might not be the best time to buy bank shares.

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