JOHNSON Our absolute TFF volume was only finalised during 2021 and we subsequently drew it in its entirety. We also now have clarity on timing of the CLF phase out. So, as we flagged in our results, we now expect funding to return to a more normalised level. I don’t think this is a surprise for the market – it is just that we are 12 months further down the track from where we had been so the picture is all a bit clearer.

KAU Some of the key factors that reshaped the market are now known quantities – and they are over. On the other hand, we are still experiencing strong deposit flow and we need to keep an eye on the RBA’s ongoing QE measures and how long its balance sheet is to be used for. These are still significant unknowns.

How the liability side of the balance sheet has been affected by the central bank’s extraordinary liquidity provision is interesting, as is how it is going to play out. The future is not entirely clear and the big unknown for us at the moment is how deposits react to changing RBA policy.

No-one really knows how it will manifest itself in our balance sheet. We are spending a lot of time trying to understand this and as soon as we think we have a handle on it, we realise there is another missing piece we are not taking into account. It is an evolving process and one that is taking a reasonable amount of time.

ANZ is dealing with some uncertainty in its mortgage book. But we also have a lot of flexibility because we have already reduced our CLF significantly, and we have an excess liquidity-coverage ratio (LCR) and net-stable funding ratio (NSFR). These factors explain why the market has not seen us active in term funding yet.

KAU It is both. With its bond purchases, the RBA is putting money into wholesale hands. Ordinarily, wholesale investors are the owners of government bonds but the RBA buying them makes the dynamic somewhat different. Both household and corporate deposits have increased a lot.

Understanding the outlook is not particularly straightforward – in fact it is really quite difficult to understand some of the flows given we have never had this situation before.

BLACKSTOCK I agree. We have done a lot of work on money supply and what we have clearly seen over this period is a huge run up in deposits, from households and also from businesses – SMEs in particular.

We continue to model how this could change in what is an uncertain outlook as we come out of a period of extended lockdowns. What will happen from here is not clear but the money supply change feels structural. It may change from one element of the deposit base to another, though, so we will keep a very close eye on how it plays out.

There will be differences between individual companies, too, depending on their circumstances. But, as has been said, it is not just a household story – business deposit growth has been very strong.

BISCHOFF I agree with everything that has been said. We have spent a lot of time over the last 18 months looking at how the flow of QE makes its way into deposits and short-term wholesale instruments, within the banking system and outside the core domestic banking complex.

Lockdowns have also had a material impact on the balance sheet. APRA’s system data show continued strong growth in deposits over the last three months. Consumers and businesses have been affected by lockdowns multiple times, so deposits have continued to build up.

Westpac has been transparent about the fact we are back to a normal wholesale-funding range of A$30-40 billion (US$21.2-28.3 billion) annually. It is hard to be more specific than this because several key variables are in play. We anticipate strong system mortgage growth although macroprudential policies or an earlier move on rates may present headwinds.

The important message we have been providing the market is that it is the last 18 months that were abnormal. With a more constructive macro environment, we expect things to return to normal – including funding.

Looking at our recent issuance, spreads were very attractive on a historical basis – in many cases representing the lowest or the second-lowest ever for an Australian bank in the US.

Finally, the removal of extraordinary policies should mean, if credit growth stays strong, the historical dynamic of slightly lower deposit growth than credit growth in Australia could return. In this case, bank funding will likely return to more normal levels over the medium term.

BLACKSTOCK Our view is very similar, in the sense that the period of the TFF was abnormal and we too will be returning to a more normal funding pattern. It is well known that we have a rebalancing task from the TFF – replacing that funding over time with market issuance. This forms part of our three-year plan.

On wholesale funding, we are heading back to a normal issuance pattern. However, we expect funding will be somewhat lower than the peak years of 2016 and 2017. On the CLF, it has been clear for some time that the number would at some stage be going down to zero. But the announcement on timing did surprise the market.

BISCHOFF Being able to go to market twice in the space of two weeks and in the process taking A$10 billion of new funding is quite advantageous, especially as it gives us space not to have to issue again for a period. The relative spreads were certainly extraordinarily attractive.

To our minds, there is clearly value in staying ahead of the curve. This was further emphasised in early December when we saw that APRA will require a further 1.5 per cent of risk-weighted assets to meet the final loss-absorbing capacity rules by January 2026.  

We continue to be on the front foot to take advantage of good market conditions but, again, the key point is that we are returning to normal funding. Doing A$10 billion equivalent in a quarter is not abnormal in this context.

JOHNSON We have had a fairly steady approach over the last 12 months or so. We told the market we would look to execute in the second half – and we did so, with a covered bond and a domestic senior deal as well as a sterling tier-two. We have already started the progression back to normal funding to an extent.

It is worth pointing out in this context that we also reported our results a little later than our peers, which can affect issuance timing. I do not think we are markedly different, in other words.

BLACKSTOCK When we came out of our results period in August-September, we took the view that issuance conditions were good and investors very receptive. We had been absent from new issuance for a long time and we wanted to take advantage of these supportive market conditions.

KAU ES balances have been directly affected by QE and the TFF. Essentially, in a crude summary, the RBA has pumped money it has created into the system and we have lent some of that money back to the central bank, via our ES account.

We now know when the TFF is going to end but we do not know when the RBA will unwind its balance sheet. Other central banks around the world have found it impossible to do so ever since the financial crisis, so there are significant uncertainties with regard to timing. This accounts for more than half the build-up in the ES account.

The important thing to note is that this does not affect our liquidity structure per se – it is just cash in the system. It is not how we fund. None of us would have a need to do any funding if it was just about cash, because there are Australian dollars sloshing around in the system that have to balance to zero through the clearing banks – or at least did prior to QE. Our funding requirement all comes from the structural funding gap. They are two very different things, but a lot of people do not make that distinction.

KAU The first question every investor asks us is about our TFF refinancing. Our response is pretty simple: we have substituted approximately A$20 billion of wholesale funding for A$20 billion of the TFF, and most of that A$20 billion would have been done at three-year tenor anyway. Because we have a smaller structural funding gap, we tend to fund shorter – so it has been almost a one-for-one substitution.

Our maturity stack does not look materially different from two years ago. When we return to markets – which will be some time this financial year – the three-year spot on the curve becomes a natural priority because we have not filled it for the last two years.

BISCHOFF We took advice from our UK counterparts about their experience with the local funding-for-lending scheme. This contributed to how we profiled out the TFF, though we were also conscious of the LCR impact and the fact we are able to repay TFF debt early.

We have been asked a lot about our plans for refinancing the TFF. I point to the fact that we look at a three-year time horizon and how the balance sheet evolves over this period factors into our wholesale-funding forecast. Westpac’s wholesale-funding maturities are slightly larger but are A$40 billion or less in every calendar year.

We will consider printing shorter deals – as we recently did with a three-year transaction in the US dollar market – because we feel comfortable our maturity profile supports doing so.

JOHNSON The TFF replaced a significant amount of wholesale funding, but we made the point to investors this does not mean it replaced only term funding. All of us have seen reductions in our short-term funding need over the TFF period, particularly as the facility gradually became larger given it was linked to balance-sheet growth over time. With this in mind, we viewed the TFF as a very cost-effective funding option relative to all other sources of wholesale funding.

Just as the other banks have said, we view refinancing the TFF as a medium-term exercise and this is why we do not think holding out until 2023/24 when it matures is the right approach. We think a gradual rebuild of our term portfolio is really important as a means of making sure we re-access markets – in other words, returning to funding at a consistent level to help avoid any unnecessary issues at the end of the facility.

BLACKSTOCK The way our calendar and TFF dates work means it looks like we have a relatively large 2024 financial-year refinancing task. But the years either side of it are low relative to historical norms, which gives us a good opportunity to smooth out the profile.

I also want to emphasise the point that it was not just long-term funding that was reduced. Our short-term funding came down to the lowest level we have ever seen, which gives us plenty of levers to pull on to smooth the refinancing profile as we move back to a more normal funding task.

JOHNSON Taking the whole stack of funding on a relative-cost basis, it would be very hard to rationalise a large reduction in the domestic short-term book. The data indicate it was offshore where we saw some flex over the over the last couple of years, particularly US commercial paper.

Over the next few years, the reduction of the CLF and therefore having to fund our liquid assets may change the dynamic. But the domestic market is the core franchise for the banks.

BISCHOFF From industry data, Australian bank US short-term outstandings as of 30 September are flat to where they were in December 2019. Wholesale short-term funding is a dynamic tool we can use flexibly to manage movements on our balance sheet – particularly when, during the peak of the pandemic and over multiple different shutdowns, we were experiencing high inflows from deposits.

What we observed across the industry was all the banks, Westpac included, reduced their exposure to offshore short-term markets. The normalisation of these balances is also not surprising given it is a competitive market in which we have had a really long history of operating. Looking at the statistics, it is notable the lower US short-term outstandings the Australian banks have relative to the Nordic, French and Canadians banks.

KAU This is a very good point: we are underexposed compared with those jurisdictions. We continue to experience really strong demand for short-term issuance and it is one of our cheaper forms of funding, especially when the basis swap gets dislocated as it has been in recent months. We are not introducing any more liquidity risk to the balance sheet, so I agree there is no reason why short-term issuance should be kept at levels as low as it has been in recent months.

There can be shocks in this market, as we saw when the government threw a curveball with the superannuation drawdowns at the height of COVID-19. Even so, there was not a huge volume of buyback requests. It took a few weeks to play out, but overall balances in the market did not substantially change.

BLACKSTOCK A lot of Australian dollar senior paper has matured during the period when the TFF was available to us and there was a big ramp up in deposits. We believe this has delivered plenty of capacity to the market. The elimination of the CLF will reduce other bank participation but we believe there is sufficient demand from other investors to support our domestic issuance requirements.

BISCHOFF The Australian dollar market is a core funding option for us. We want to make sure we are supporting it and also demonstrating where liquidity is. It is difficult to say definitively but it is likely the size achievable in the domestic market may have reduced since the CLF announcement. Offsetting this, pricing has increased and supply from the major banks is very negative over the last two years. We will need to wait for a public deal to observe the impact properly.

KAU A lot has been made of the balance-sheet bid in domestic term issuance. My view is there may be a slightly reduced bid around the edges but, for example, ANZ has not bought bank paper for several years anyway. We have not expected other banks to buy our paper, either. This bid is not something we have relied on or targeted. We always prioritise real-money investors, as I am sure all the banks do. More is made of it than is perhaps warranted.

JOHNSON We expect changing bank balance-sheet demand to be a factor in the domestic bid. But the main point is that there is no shortage of liquidity available for Australian banks globally.

We also feel confident the Australian dollar market will be there for us, even if it is not blow-out after blow-out in transaction volume. I agree with Alex Bischoff’s characterisation: market scale ebbs and flows but it finds an equilibrium level. It will just take a few transactions for the latest developments to work their way through the market.

BLACKSTOCK Our economists expect the increase in housing demand will moderate into 2022 but business credit growth to pick up as the country reopens. I think this is partly due to where we have come from – the impact of lockdowns – more so than higher rates. We have already seen rates increase and all the banks have hiked fixed-rate mortgage pricing in response to market conditions.

JOHNSON On the housing side, we see some moderation in system credit growth in financial year 2022 versus financial year 2021, whether it be from higher interest rates or other factors.

BISCHOFF We have seen a lot of fixed-rate mortgage flow in the last 12 months but as a base case we mostly fund and swap to a floating-rate basis. This means the disparity in forecasts between the RBA and the market, and the consequent interest-rate risk, is interesting but not really a critical point as it relates to funding cost.

If we encounter periodic bouts of extreme rate volatility akin to what we saw a month ago, investors will invariably look to immunise themselves by demanding higher premia. But, ultimately, higher yield should be constructive for fixed income as yield curves adjust to the expectation of the rate cycle.

Higher yield, particularly in core currencies like US dollars, invariably attracts a significant pool of global demand – as we saw in 2016-17. If we consider what is playing out in Europe right now – increasing shutdowns and lockdowns across the continent – the likelihood of a central-bank policy move there anytime soon seems low. Australian major banks funding in US and Australian dollars should look pretty attractive on a relative-yield basis. What spreads do as we move through the cycle is less certain but, longer term, it should be positive for fixed income.

KAU It is often assumed that higher rates mean higher funding cost for banks. This may be the case for corporates but for banks – which are borrowing and lending money on a spread-to-swap basis – it is not a concern. It is not irrelevant but, as Alex Bischoff says, it should be positive in the long term. It is all about spread rather than the outright rate.

BLACKSTOCK The rate volatility point is key. As we move back to our typical funding profiles, we will be looking to fund consistently through the cycle but with the ability to sit out any periods of high volatility if necessary.

JOHNSON The only other thing that comes to mind is the extent to which volatility affects markets and balance sheets as rates rise. In other words, credit growth dropping off and thus funding requirements changing, and whether we see the makeup of our deposit base potentially drift back toward term deposits. It is the secondary impact of higher rates that we keep an eye on closely. •