Bank Profits at Risk Amid Recession Fears

Australia’s major banks could see their earnings plunge by up to 25% if a recession hits, as rising bad debts and weakening loan growth threaten financial stability. While global trade tensions fuel economic uncertainty, investors still treat bank stocks as a safe haven, possibly underestimating the risks a downturn could bring.

Right now, the banking sector remains in relatively strong shape, even as share prices have pulled back. The uncertainty stems from the escalating trade war, subdued business confidence, and global macroeconomic headwinds. Despite these threats, local banks continue to benefit from stable if not resilient investor sentiment, partly due to Australia’s economic positioning and reserve bank policy flexibility.

Morgan Stanley ran several recession scenarios, analysing the potential rise in bad loans based on prior downturns. In their base model, bank earnings may fall about 7%, while a more severe recession could cut profits by as much as 25%. These losses reflect rising credit defaults, falling loan margins, and weaker demand across consumer and business sectors.

Despite recent share price drops, ranging from 11% for one major bank to over 21% for another, investors still find relative value in the big four banks. With earnings multiples sitting between 12 to 14 times forward estimates, they remain below the market average, offering perceived defensive qualities in a volatile environment.

Looking ahead, market analysts suggest that while short-term risks are growing, banks are entering this period with solid buffers. Conservative lending practices, strong capital ratios, and residual protections from the pandemic era may help cushion against major disruption, if the downturn is mild. However, should global conditions deteriorate quickly, bank stocks could fall as much as 23% from current levels.

Source: Australian Financial Review, RBA, SBS