AE Portfolio Conservative Holding Australia & New Zealand Banking Group Ltd (ASX: ANZ, OTC: ANEWF, ADR: ANZBY) provides a great example of the two-sided story of the Australian dollar’s steep decline versus the US dollar.

The aussie has slumped 13.3 percent from a closing high of USD1.0545 as recently as April 11, 2013, to USD0.9146 as of this writing. From its 2013 closing high of USD1.0598, established Jan. 10, to its low of USD0.9067, set July 3, the slide is 14.4 percent.

That’s added about AUD7 billion (about USD6.3 billion) to ANZ’s balance sheet as its gets close to meeting its funding requirements for its current fiscal year, which ends Sept. 30, 2013.

Under cross-currency swaps linked to debt issued in foreign markets, counterparties return collateral as the currency falls, giving the bank “an immediate cash in-flow,” said ANZ Treasurer Rick Moscati in a recent interview with Bloomberg News. “It actually reduces the amount of debt you need to issue offshore.”

Australia’s banks rely on overseas markets for as much as 70 percent of their debt funding and the positive impact on their balance sheets from the currency’s fall far outweighs any negative effects, according to Mr. Moscati.

Mr. Moscati noted a “natural safety-valve mechanism” in the way ANZ and the other three of Australia’s Four Pillars issue foreign-currency debt. If the aussie depreciates, demand for Australian credit decreases. The resulting increase in the value of the stock of foreign debt more than offsets that drop in demand, explained Mr. Moscati.

ANZ’s funding task for the year ending Sept. 30 is at the lower end of a range in recent years of AUD20 billion to AUD25 billion. As of July 10 the bank, Australia’s third-largest by market capitalization at AUD78.754 billion, had raised AUD19 billion and “could call it a day if [it] wanted to.”

ANZ has boosted its capital and liquidity over the past five years in response to stronger global banking rules aimed at averting another financial crisis. ANZ’s Basel III Tier 1 capital ratio was 12.1 percent as of March 31, 2013, up from 6.7 percent in 2007.

ANZ, an original member of the AE Portfolio, beat analysts’ expectations with its fiscal 2013 first-half (ended March 31, 2013) numbers on cost savings at home and the continuing success of its endeavors in Asia.

The latter–ANZ’s push beyond Australia and New Zealand–is the major factor that separated it from the other three major Australian banks when we made our initial Portfolio selections in September 2011.

ANZ also announced a 10.6 percent interim dividend increase, to AUD0.73 per share from AUD0.66 a year ago. The magnitude of the increase suggests ANZ is responding to the market’s hunger for yield.

Management is also working on closing the payout ratio gap between it and its Four Pillar peers, as its historic 65 percent trailed Commonwealth Bank of Australia (ASX: CBA, OTC: CBAUF, ADR: CMWAY) at 76 percent, National Australia Bank Ltd (ASX: NAB, OTC: NAUBF, ADR: NAZBY) at 75 percent and Westpac Banking Corp (ASX: WBC, NYSE: WBK) at 79 percent.

ANZ now appears to be targeting a payout ratio in upper part of a 65 percent to 70 percent range, with the former 45 percent/55 percent first-half/second-half skew replaced by a policy that more closely aligns dividend growth with earnings growth each period.

ANZ hit an all-time closing high of AUD31.84 on the ASX the day of its earnings announcement but has since backed well off, to as low as AUD26.55 on June 12.

The share price is back up to AUD28.64 as of this writing, but the stock has actually underperformed its peer group since ANZ announced fiscal 2012 numbers last October, as the bank’s relatively high institutional exposure as well as its New Zealand business exerted a drag on margins.

The institutional exposure and New Zealand still dragged on margins in the first half of 2013, but management noted that negative trend for both divisions stabilized during the second quarter.

Management now forecasts a decline of one or two basis points for net interest margin for the second half of fiscal 2013, but this will result from lower average rates rather than competitive pressures or because of revenue/market mix.

Net interest margin overall was down 3 basis points half over half and 10 basis points year over year to 2.25 percent but was steady at 2.67 percent, as lower wholesale funding costs were offset by competition for deposits and lower earnings due to the Reserve Bank of Australia’s recent stretch of cuts to its benchmark overnight cash rate.

ANZ’s margin trajectory–which had set it apart, negatively, from its top three competitors in recent halves due to institutional and New Zealand exposure–should be less of a headwind for the rest of fiscal 2013 and into 2014. Volume and non-net interest income growth should drive stronger revenue growth going forward.

Statutory net profit after tax for the first half of ANZ’s fiscal 2013 was up 7 percent compared to the second half of fiscal 2012 to AUD2.94 billion. Cash profit, which doesn’t include the impact of one-time items, was up 8 percent quarter over quarter and 10 percent year over year to AUD3.18 billion.

ANZ’s share of retail banking in Australia grew to 14.3 percent as of March 31, 2013, up from 14 percent at the end of the second half of fiscal 2012. And domestic profit margin grew by 3 basis points from a year earlier.

Loan growth across the portfolio was robust at an annualized rate of 6.3 percent, though Australia was relatively subdued with annualized growth of 4 percent. Growth in ANZ’s overseas markets was strong, at 12.3 percent.

After reporting a 15 percent reduction in new impaired assets management now expects full-year provisions for bad loans to be in line with fiscal 2012 levels of AUD1.258 billion.

ANZ, the leader among Australia’s Four Pillars in terms of expansion of operations into greater Asia, now earns approximately 20 percent of its revenue from operations outside Australia and New Zealand. The long-term target is 25 percent to 30 percent.

CEO Mike Smith noted ANZ’s “ability to invest over $400 million in growth initiatives during the period while also producing strong productivity outcomes across the business.” Overall expenses declined 8 percent, while the bank’s cost-to-income ratio was down to 44.7 percent, a “step change,” according to Mr. Smith.

The move to a single brand and platform in New Zealand, reaching critical mass in Asian support hubs to increase efficiency in the Australian franchise and  building Asian businesses to a point where incremental revenue exceeds incremental costs have helped ANZ cut its underlying cost-to-income ratio by 160 basis points since the end of fiscal 2012. Management is targeting 200 basis points by fiscal 2014.

Major questions facing ANZ concern regulatory change, at the international and domestic levels, Australia’s housing market and China’s growth.

A new international regulatory agenda emerged in the aftermath of the Great Financial Crisis, with regulations designed to make the financial system safer. Banks now must hold more capital and more liquid assets; although banks’ profit-growth rates could be constrained, investors would be compensated by taking on lower risk.

In Australia, the increase in compulsory contributions to the country’s compulsory retirement system, or “superannuation,” from 9 percent of annual income to 12 percent by 2020 will have the effect of “sequestering” a higher portion of people’s income and channeling it into superannuation.

This could reduce the pool of savings directly available to banks for deposits. Such a shortfall could be offset if superannuation funds provide more deposits into the banking system.

But Basel III liquidity rules act as a constraint on banks building up deposits from superannuation funds.

Under rules adopted by the Australian Prudential Regulation Authority, superannuation deposits are considered to be “flighty” and do little to boost a bank’s liquidity coverage ratio.

Beginning in 2015 banks will be required to have enough reserves readily convertible to cash to survive 30 days in the event of a crisis, up from five days currently.

As for housing, the Organization for Economic Cooperation and Development (OECD) recently Australia’s as the sixth most overvalued housing market, behind Belgium, Norway, Canada, New Zealand and France. The Economist, in a similar undertaking, ranked Australia No. 4, behind France, the Netherlands and Canada.

There are a number of factors that set render Australia unlikely to suffer a housing-market crash along the lines that sank the US and then the global economy in 2007-08, including tighter underwriting standards, the existence of full-recourse mortgages and higher levels of owner occupancy.

That’s not to say that a correction will be avoided. A major factor will is the last of the three major issues facing ANZ: China.

The major potential headwind for Australia’s housing market is a combination of a lower growth outlook for China, a slowdown in Chinese immigration and a reduced appetite for offshore capital inflows associated with the lower Australian dollar as the mining CAPEX boom winds down.

At the same time, the generational change and the urbanization of China that started in the early 1990s are on track to continue for another two decades, at least. ANZ is well positioned for this change, with established outposts and an expanding presence in the Middle Kingdom and a strong domestic foundation.

Since we first recommended it in the Sept. 26, 2011, debut issue of Australian Edge ANZ has generated a total return in US dollar terms of 61.99 percent. That trails Commonwealth Bank of Australia’s 64.65 percent and Westpac’s 63.17 percent.

But all three have outperformed major benchmarks, including the S&P/Australian Securities Exchange Index at 29.25 percent, the S&P 500 Index at 47.91 percent and the MSCI World Index at 39.46 percent.

Australia & New Zealand Banking Group, on the strength of its recent dividend increase, the prospect of efficiency improvements and its head start in Asia, is a buy under USD30 on the Australian Securities Exchange (ASX) using the symbol ANZ and on the US over-the-counter (OTC) market using the symbol ANEWF.

ANZ also trades on the US OTC market as a Level I, sponsored American Depositary Receipt (ADR) under the symbol ANZBY. ANZ’s US OTC-traded ADR represents one ordinary, ASX-listed share. ANZ’s ADR is a buy under USD30.

Australia & New Zealand Banking Group’s fiscal year runs from Oct. 1 to Sept. 30. The company reports full financial and operating results twice a year; it typically posts first-half results–for the six months ending March 30–in late April, with full fiscal-year numbers out in late October.

ANZ’s board confirmed an interim dividend of AUD0.73 on April 30, when it announced fiscal 2013 first-half results. It was paid July 1, 2013, to shareholders of record as of May 15, 2013. Shares traded “ex-dividend” on this declaration as of May 9, 2013.

A final dividend will be declared on or about Oct. 24, 2013, when ANZ reports full fiscal year results. It will likely be paid Dec. 18, 2013, to shareholders of record as of Nov. 13, 2013. ANZ paid a AUD0.79 final dividend for fiscal 2012, which was up 3.9 percent from fiscal 2011.

Dividends paid by ANZ are “qualified” for US tax purposes. Based on the “fiscal cliff” compromise reached in Washington, DC, in early January 2013 dividends will be taxed at Bush-era rates of 5 percent to 15 percent for investors’ first USD450,000 a year of income for couples and USD400,000 for single filers. Above that the maximum tax rate is 20 percent.

The Australian government withholds 5 percent to 15 percent, based on the US-Australia tax treaty on double taxation. The two countries have not taken the step of eliminating withholding from dividends paid in respect of shares held in a US IRA, as have the US and Canada.

Among the analysts who cover the stock, nine rate it a “buy” according to Bloomberg’s standardization of brokerage house recommendation terminology. There are seven “hold” and three “sell” ratings on the stock at present. The “best consensus” 12-month target price among the 15 analysts that provide such a number is AUD30.39, with a high of AUD35.50 and a low of AUD26.93.

The analyst with the latter 12-month target price, with CIMB Group, raised its rating on ANZ to “outperform” from “neutral” when it issued that forecast on June 18, 2013.