Commonwealth Bank of Australia (CBA) shares have reached record highs, perplexing analysts who believe the bank's current and near-term earnings don't justify its market valuation of almost $290 billion.
Analyst Brian Johnson suggests a theory involving a large group of retail investors who bought shares in 1991 and have since held them, avoiding capital gains tax. These investors benefit from steady dividend income. He also points to high institutional investor demand, creating latent demand that keeps the share price elevated.
Johnson compares the situation to a highly sought-after, rare item (e.g., a Hermès Birkin bag). Despite CBA's share price surge, concerns remain about the bank's expected subdued earnings growth and the competitive market. There's also the potential for slowing economic growth and pressure on banks' dividend sustainability.
While the current share price defies conventional valuation metrics, the analysts who predicted a lower valuation may eventually be proven correct. The sustained price surge is viewed by some as a significant anomaly, with the potential for a future market correction.
Given where CBA’s shares are currently trading, those contortions must now be close to bone-breaking
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Technically, the experts are right. CBA is obviously a well-run bank and probably deserves a premium over its peers, but based on its current and prospective near-term earnings, the doesn’t deserve its market value of almost $290 billion.
And with every record that CBA notches up, these experts look more wrong-footed.
Veteran banking analyst Brian Johnson from MST Financial has had a stab at explaining the disconnect and whether this time around the analysts have got it wrong.
He posited a theory last year that CBA’s shares were the unique beneficiary of a cyclonic tailwind of popularity that dates back to its float some 30 years ago. He diverged from the pack and placed a “hold” rather than a “sell” and he maintains that position, despite acknowledging that the stock is expensive.
The way he explains it, there is a huge rump of retail investors who bought shares when CBA originally listed in 1991at $5.40 per share and have since steadfastly refused to sell the stock.
Given how far CBA’s share price has soared since its listing, selling the stock would mean a lot of mum-and-dad investors would cop a big tax on the profit they have made. So, they choose to instead enjoy the steady income that the bank’s dividends provide.
As for institutional investors, they can’t get enough of CBA, creating a latent demand that keeps the share price at a premium.
Johnson says when looking at the dynamics of CBA’s price he is reminded of a video about a Hermes Birkin crocodile skin bag – there is only one of it, but four people want it.
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But CBA’s rise is a shock to the system and there are ample reasons to be perturbed. And cautious.
This is a company whose earnings growth is expected to be subdued and well short of spectacular. There is nothing in the short term that suggests its earnings will have a growth spurt, indeed, it is operating in a highly competitive market and facing what most economists believe to be slowing economic growth and even the potential for some pressure on all the banks to sustain dividends at current levels.
So, the analysts seemingly exposed for making the wrong call on the bank may yet be vindicated at some point.
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