Bank profits fell for the first time in seven years last year on the back of growing competition and a squeeze on bank margins.

KPMG's annual Financial Institutions Performance Survey revealed banks collectively made a profit of $4.84 billion in 2016 down from an all-time record high of $5.17 billion in 2015.

John Kensington, head of banking and finance at KPMG, said it was the first year in seven that it had seen a reduction in sector profitability compared to the prior year.

But while the result was down Kensington said it was not a doom and gloom situation as the previous years' result had been very strong.

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"It's a bit like they turned up to the Olympics and got a silver because someone else did a personal best. It is down but it isn't doom and gloom."

The report doesn't include yesterday's ASB half year result for the last six months of 2016.

ASB, which announced an 11 per cent rise in its net profit, operates on a different reporting cycle from the other major banks.

Kensington put the sector's profit drop down to squeezed margins caused by volatility in global markets making funding more difficult and expensive, as well as rising loan impairments and operating expenses.

The margin across the sector dropped 13 basis points to 2.15 per cent over the year.

"Midway through the year we saw an acceleration in lending growth to an eight-year high of 8.10 per cent, while at the same time banks have had to manage decreasing domestic deposits and increasing offshore funding costs."

"This is undoubtedly squeezing margins and means homeowners need to be prepared that there is little likelihood a low OCR [official cash rate] will be passed on to mortgagors."

Kensington said if the OCR was cut banks have already indicated they are likely to use the cut to buffer their margins or to pass on to domestic depositors to address the mismatch between borrowing and deposits.

"In other words, don't expect mortgage interest rates to decrease any time soon."

Kensington said the banking sector was facing a future of increased challenges, volatility and uncertainty and he predicted profits for this year were likely to be flat with a higher risk of being down than up.

He said in the near term securing funding at good prices would be on the mind of bank executives.

"The global market is more volatile due to the various geopolitical issues that it is facing.
Nothing makes markets more expensive than a degree of uncertainty as to what might happen."

Kensington said outside of funding the banks were focusing on three issues; further digitisation of bank services, regulatory pressures and conduct risk.

"Investment in technology and digital capabilities will remain critical in 2017 and beyond.

"We've seen most of the banks innovate in this area to an extent, but to truly counteract the threat of market disruptors and improve customer experience this needs to continue."

Kensington said more partnerships between banks and existing technology companies were likely especially in the payments space.

He also warned that with more disruption came the increase in risks from cyber crime.

"Customers expect entities to have their data and other sensitive information protected against cyber intrusion. As more channels and apps are opened and different services are offered, all of these channels and services require appropriate cyber protection.

"One thing is certain; those on the other end of the cyber crime line are only increasing their efforts to hack into, steal private data, and create embarrassment."

The survey coverered 21 banks.

Bank performance in 2016
• Total assets up 7.03 %
• Net profit after tax down 6.46%
• Interest margin down 13 basis points to 2.15%
source: KPMG FIPS report