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 Last week's full-year profit result from Commonwealth Bank highlighted the strength of the Australian banking sector relative to its international peers. Provisions for bad loans doubled from last year to $930 million but the bank still managed to record an underlying net profit of $4.7 billion. But growth is slowing. Profits grew just 7 per cent from last year and, taking into account the lower tax rate paid by the bank this year, profit growth was only 4 per cent. More importantly, second-half growth was lower than the first half.

The CBA's main profit engine is its retail banking services, which account for about 40 per cent of total profits. But the division would not have contributed any profit growth at all this year if not for a large increase in retail deposits. Banks love strong deposit growth because deposits are a cheap source of funding. And in this environment, the more sources of cheap funding, the better.

Despite CBA's robust deposit base, the bank's net interest margin - a key measure of profitability - is under pressure.

The net interest margin represents the difference between what the bank earns on funds lent and what it pays to borrow those funds. The underlying net interest margin fell 10 basis points over the year, from 2.08 per cent to 1.98 per cent.

Overall profitability, as measured by return on equity, fell from 21.7 per cent to 20.4 per cent.

The bottom line is that the bank is holding up well in tough times but its profitability is declining.

Outlook

CBA chief executive Ralph Norris is not overly sanguine about the future, saying the present global banking crisis could play out for years. This means the bank's profitability is likely to remain under pressure for some time. Due to the deleveraging taking place in the global economy, the strong credit growth that has fuelled banks' profits in recent years is likely to remain at subdued levels for some time to come. Given its large exposure to housing, CBA will be hoping the local property market can avoid the pain occurring in nearly all other overvalued property markets around the world. If recent price falls are just the start of things to come, CBA and the banking sector in general will have a new round of problems to deal with.

Price

CBA's share price peaked at more than $60 late last year. At the time the general consensus was Australian banks were insulated from the global credit market turmoil. Then one day investors woke up and realised the banks were indeed exposed. The shares went over a cliff and, from a high of more than $60, fell to about $37 in a matter of months. The stock has since rebounded and is consolidating between the March low and about $45.

Worth buying?

Many people believe the banks are cheap. If you believe credit growth will return to 2006 levels in a hurry, then banks are indeed cheap. But that's not going to happen. CBA is trading at a fair value. Taking into account the slowing domestic economy and rising bad debt cycle, the profit outlook looks risky. The dividend, at about 6.5 per cent, is attractive but we'd be avoiding the stock for now.