The SA banks continue to lag the rest of the market as far as performance is concerned, even though the macroeconomic environment is normalizing, and the credit risks remain within normal ranges. We continue to believe current valuations offer an attractive entry point into SA Banks with well capitalized balance sheets, that can potentially deliver mid-teen earnings growth without a pick-up in loan growth above the current 3%. If we do get a pick-up in loan growth, returns could be off to the races. Given the forward-looking nature of expected credit loss provisioning in terms of IFRS, a combination of the deteriorated macroeconomic outlook due to covid pandemic, and customer risk profiles built into credit impairment models, we saw a sharp increase in credit loss provisions in 2020. As the economic fallout from the 2020 lockdown did not materialize as initially guesstimated there is the potential for credit loss normalization and loan loss provision releases. We performed an assessment to see what the impact would be of Credit Loss Ratio and Loan Loss Provisions returning to normalized levels over a 3-year period on incremental earnings growth moving forward. The table below shows the impact of releasing these provisions and normalizing CLRs to earnings going forward:

• Excess provision was calculated based on current provision levels less 2019 provisions, which we consider representing a more normal level in the current environment. The assumption was that the entire excess provision would be released in one period and on an after-tax basis. The excess provision would result in an upside in earnings of 99% for FSR, 62% for ABG, 38% for SBK, and 43% for NED.
• If CLR return to normalized levels, that would result in a 60.4% pick-up in earnings for FSR, 53% for ABG, 30.4% for SBK, and 31.9% for NED.
• The total incremental EPS impact based on provisions as a % of gross loans and credit loss ratio normalizing over a 3-year period are as follows:
  • FSR will have incremental EPS of 212 cents: 84.9% growth from 2019 earnings. This equates to a 3-year CAGR of 22.73%.
  • ABG will have incremental earnings of 1307 cents per share: 67.9% upside on 2019 earnings and an 18.85% 3-year CAGR.
  • SBK’s incremental earnings amount to 674 cents: 37.9% increase on 2019 earnings and a 11.31% 3 -year CAGR.
  • NED will have incremental earnings of 1414 cents per share: 54.3% upside on earnings and a 15.55% 3-year CAGR.

 
We view our expectations as being on the conservative side as we return to pre-pandemic levels over a 3-year period. As per our recent SA consumer report we see the SA consumer in good health with solid income growth, increasing disposable income, better than normal savings rates, and higher net wealth compared to pre-pandemic levels. All this places the consumer in a good position to service debt and qualify for loans.

The recent performance of the SA Bank stocks suggests that investor expectations are very low. This is reflected in bank valuations which are currently trading at levels of up to 50% discount to historical valuations. Given the tailwind provided from an accounting perspective as the economic outcome from the pandemic was less dramatic than forecasted, EPS can grow comfortably in the mid-teens for the next 3 years without any assumptions for an increase in loan growth. At current levels the risk/return profiles with SA Banks are skewed asymmetrically to the upside. We remain overweight SA Banks.