The Reserve Bank of Australia (RBA) has raised questions about super funds' exposure to banks' assets and some domestic fund managers are also warning of overexposure, given concerns about slowing economic growth, high bank debt levels and rising unemployment.
The RBA said last week in its Financial Stability Review that the Australian managed funds and banking sectors were interconnected, with one of the main links being managed funds' holdings of bank assets.
In particular, managed funds' holdings of deposits, debt securities issued by banks and bank equity had generally been increasing in the past few years, and now accounted for around 22 per cent of their financial assets, it said.
"This interconnection is beneficial in that managed funds are a source of funding for banks, and banks provide investment opportunities for funds," the report said.
"On the other hand, it could also represent a concentrated exposure to each other."
Lanyon Asset Management portfolio manager Erik Metanomski said the superannuation sector was heavily exposed to the banking sector, which could exhibit volatility and would face harder times ahead.
"For the super sector to be so heavily exposed to what can be a volatile sector really defies logic," Metanomski said.
"The banking sector is an easy sell for brokers because of the high yields and the misconception that their yields will be very safe.
"But the banking sector can be very volatile and if you look back over the past 50 years, there have been periods when banks have cut back dividends."
He said the nirvana-like conditions banks had experienced in recent years, including huge credit demand and strong economic growth, were ending. The bank sector would experience "a very negative offset" at some point in the future, given slower growth here and abroad and household deleveraging, he said. For this reason, Lanyon did not hold bank shares.
"If you look at what's happened in the financial sector around the world, in the US and Europe, it gives you a snapshot of what could happen here in more difficult times," he said.
Already, problems for banks have emerged, such as falling house prices, subdued credit growth, and a rise in bad loans and unemployment. The Australian banks were failing to allow for poor-quality loans on their books, Metanomski said.
Just last week, Fitch Ratings said Australian mortgage arrears rose in the fourth quarter of 2011 despite cuts in interest rates by the central bank.
Neil Margolis, lead portfolio manager at Merlon Capital Partners, which specialises in equity income strategies, pointed out banks were highly indebted and that would make them vulnerable in a downturn.
"Banks are highly leveraged companies, typically holding less than 5 cents tangible shareholders capital for every $1 in assets," Margolis said.
"There is a real risk retail investors in particular are too complacent about their significant holdings in bank shares and fail to even contemplate the impact an unexpected downturn in the economy will have on banks' ability to borrow and their profits."
While his fund's holdings included the major banks, its investment strategy overlaid downside protection "as and when deemed necessary", he said.
"The fund has a lower weighting in the major banks than their index representation of 25 per cent," he said.
Despite those concerns, "our base view is Australian bank share prices are more than 10 per cent undervalued, current dividend yields are sustainable and the debt instruments, including bank deposits, are safe."
