More than three months into the banking Royal Commission, what have we learned about Australian banks―and how, from an investment perspective, should we think about them now? The answer appears to be: tread carefully, and keep an open mind about what might happen next.

With the information that’s come to light so far, it’s clear that banks won’t be the only ones to suffer negative consequences from the scrutiny they’re under, but affiliated businesses will feel the pain—and, to some extent, consumers will, too.

The most direct financial risk for the banks will come from fines and remediation payments, although the full extent of these won’t become apparent until after the Commission has ended.

For now, regulators such as the Australian Prudential Regulation Authority and the Australian Competition and Consumer Commission are combing through evidence unearthed by the proceedings with a view to taking future legal action.

Banks will also take a financial hit in less direct ways, through reduced pricing power and constraints on lending in volume.

The scrutiny of their business practices and the reputational damage they have sustained mean that it’s become more difficult for them to reprice mortgages upwards “off cycle”—that is, at times other than when the Reserve Bank of Australia raises the official interest rate.

Growth in loan assets is also likely to slow as banks bow to pressure to vet applications more carefully, especially regarding borrowers’ expenses—an important aspect of credit valuation which appears to have been treated laxly in the interest of growing loan books.

And this is where the fallout starts to extend beyond the banks.

Impact Will Be Broad and Deep

Corrective action on bank lending will weigh not only on banks’ earnings, but on the broader economy, too, if it results in slower growth in consumer, business and home loans.

Among bank-affiliated businesses, mortgage brokers could be hurt by tighter lending practices, increased regulation and changed incentive structures, forcing smaller companies to close or merge with bigger ones, potentially leading to a wholesale restructuring of the sector.

Car dealers may have to change their business models, which rely heavily on arranging finance and ancillary insurance, such as extended warranties, as well as selling vehicles. Following evidence of malpractice in auto finance, rules could be tightened, making finance a less lucrative activity and forcing dealers to refocus on the margin available from selling cars.

Evidently, the Commission’s impact is likely to be broad as well as deep, but it’s difficult at this point to judge how extensive it will be. The difficulty is compounded in part by the Commission itself.

Black Letter vs. Gray Area

Its recommendations will reflect how it weighs and interprets evidence, and the Commissioner, Justice Hayne, is known to take a “black letter” approach to commercial law. For this reason, the Commission is not widely expected to change the law of contract as it applies to banks.

Part of its remit, however, is to identify the extent to which banks have fallen short of “community standards and expectations”. In doing so, the Commission will need to define what those standards and expectations are, and it will be interesting to see how a black-letter lawyer rises to the task.

Given all these uncertainties, how should investors think about banks in the short to medium term?

The $82 Billion Question

Here’s a black-letter fact that investors in Australian banks should note: following an investigation by the Financial Conduct Authority in the UK, the country’s banks have set aside £44.2 billion ($81.46 billion) to cover claims arising from the mis-selling of payment protection insurance.

That’s a lot of money, and it’s by no means certain what Australian banks’ financial liabilities are likely to be once the Commission and other reviews and inquiries into the sector (there are currently 14 in all) are complete.

It’s worth noting, however, that the British banks’ liabilities relate to just one area of business, while nearly all aspects of Australian banks’ retail business are under investigation.

Until we have a little more clarity on the potential outcomes, we will consider Australian banks to be higher-risk than normal.

The views expressed herein do not constitute research, investment advice or trade recommendations and do not necessarily represent the views of all AB portfolio-management teams.