OCBC - DBS Research 2017-05-09: Strong Non-Interest Income Drivers

OCBC - DBS Vickers 2017-05-09: Strong Non-Interest Income Drivers OVERSEA-CHINESE BANKING CORP O39.SI

OCBC - Strong Non-Interest Income Drivers

  • 1Q17 earnings beat consensus forecasts; in line with ours; strong boost from non-interest income.
  • Asset quality appears to have stabilised; slower new NPL formation; but management remains cautious on the oil & gas industry outlook and that recovery is nowhere in sight yet.
  • Guiding for improved NIM movement from 1Q17 but flat vs FY16; loan growth guided at 5-6%. 
  • Maintain HOLD, TP at S$10.30.



What’s New 


Strong 1Q17 momentum driven by non-interest income.

  • OCBC’s 1Q17 net profit came in at S$973m (+23% q-o-q; +14% y-o-y), driven by strong non-interest income from wealth management, insurance and trading income.
  • Expenses were higher q-o-q largely due to personnel-related cost. On a y-o-y basis, expenses were higher as a result of integration costs related to Barclays’ acquisition. 
  • Provisions were lower q-o-q but flat y-o-y. 
  • Topline growth saw little change q-o-q on lower NIM despite stronger loan growth.

NIM fell but loan growth was strong. 

  • NIM fell by 2bps q-o-q (contrary to peers which saw a rise) as a result of a larger amount of interest income not recognised (higher interest in suspense) due to NPLs. Excluding this, NIM would have been higher by 2bps q-o-q, owing largely to better yields from money market placements from its excess funds. 
  • Notably, OCBC’s Hong Kong operations’ NIM fell quite substantially due to a mismatch of 1-month and 3-month HIBOR for loans and deposits, respectively, and the lack of gapping activities.
  • Loan growth was surprisingly strong at 2% q-o-q (+4% in constant currency terms), the strongest among peers, driven by Singapore corporates and trade loans – partially supported by loans to individuals. Loan-to-deposit ratio rose slightly q-o-q to 84%.

Record-high wealth management income and insurance contribution drove non-interest income. 

  • Wealth management income and fees hit a record-high of S$724m and S$215m, respectively, in 1Q17. Wealth management income now comprises 32% of group income. 
  • Bank of Singapore’s (BOS) assets under management (AUM) rose to US$85bn/S$119bn (1Q16: US$57bn/S$77bn). The bulk of the AUM growth is organic, rather than a lift from Barclays’ portfolio. Note that the Barclays’ acquisition was completed in Nov 2016. 
  • Profit contribution from Great Eastern Holdings (GEH) doubled from a year ago, thanks to favourable market conditions. GEH’s underlying business remained robust with total weighted new sales and new business embedded value rising by 29% and 24%, respectively, from a year ago. 
  • There was also positive traction from trading income, which was largely treasury-related from customer flows, and sale of investment securities; these conspired to provide a further boost to non-interest income for 1Q17.

Lower provisions; asset quality appears controlled. 

  • Provisions were lower q-o-q but flat compared to a year ago. Provisions for new and existing loans were lower q-o-q but slightly higher from a year ago. Compared to peers, OCBC did not release any general provisions to offset specific provisions.
  • NPL ratio stayed stable at 1.3%. New NPL formation has eased while recoveries, upgrades and write-offs were collectively higher. NPL formation looks to have peaked in 4Q16. Absolute NPLs saw a very marginal decline q-o-q while loan loss coverage stood at 101%.

Oil & gas and commodities exposure were largely stable.

  • OCBC’s oil & gas exposure stood at 7% of total loans (4Q16: 6% of total loans). Of this, loans to the offshore support vessels (OSV) sector made up 40% (3% of total loans), where 22% of such loans are classified as NPLs. As at end-1Q17, 37% of the oil & gas NPLs were being serviced.
  • The higher exposure was due to short-term trade-related loans and lending to Singapore conglomerates. Nevertheless, NPL ratio for the oil & gas segment stayed relatively stable at 0.62% (4Q16: 0.61%). 
  • Elsewhere, its commodities exposure stayed stable, comprising 6% of total loans and the NPL ratio for this segment stood at a low of 0.12%.

Capital levels were lower on higher risk-weighted assets.

  • Capital ratios eased on higher risk-weighted assets. Fully loaded CET1, Tier-1 and Total CAR stood at 12.2%, 14.2% and 16.5% respectively. No dividends were declared this quarter. 
  • Risk-weighted assets were higher mainly due to additional risk weights attached to equity investments for its asset management and insurance operations in this risk-on investment environment for new fund product launches.


Outlook 


Not taking a ”worst is not over” view. 

  • Contrary to peers, OCBC remains cautious on the outlook for the oil & gas sector. 
  • Issues pertaining to asset quality for the oil & gas have been dealt with, and sufficient provisions are said to have been made. Assessment of collateral is done on a quarterly basis and additional specific provisions have been made largely to address deteriorating collateral values. We understand that market prices for vessels have approximately fallen by 40-45% from the original values. 
  • According to management, OCBC has taken an additional 20-25% haircut on these already stressed values. Management appears to have addressed the oil & gas issues pre-emptively, judging by the quantum of specific provisions made from as early as 3Q15. 
  • The view taken that the worst is not over the oil & gas sector is drawn from management’s opinion that it is not expecting a broad- based recovery and that oil prices remain volatile, hence oil majors are unlikely to commit to long-term charter contracts or investments. 
  • In conclusion, NPLs is said to have stabilised and while additional NPL incidences will still be seen, it will not be as large as in the previous quarters.

NIM guided to be flat from FY16; loan growth at 5-6% for FY17. 

  • NIM is expected to pick up from 1Q17, owing mainly to the absence of adjustments made to the interest income related to NPLs (which is not likely to recur in coming quarters), possible loan re-pricing following rate hikes and from stronger loan demand. 
  • Management has guided for NIM to hover around 1.66-1.67% – levels seen towards the end of 2016. 
  • Loans are expected to grow at 5-6% for FY17, following a strong 1Q17.

Capital levels to improve over time. 

  • Capital levels are expected to improve from here with a more efficient use of capital and as the bank moves towards growing higher quality loans. The scrip dividend scheme may be called back if there are new business opportunities and if Basel 4 requires additional capital from higher risk-weighted assets.


Valuation and recommendation:  

  • Maintain HOLD, TP at S$10.30. 
  • We maintain our earnings forecasts, recommendation and target price. 
  • We believe most of the positives are priced in; the wildcard being the sustainability of its wealth management and insurance businesses, which could act as a catalyst. 
  • Our TP implies 1.1x FY17F BV and is derived from the Gordon Growth Model (10.5% ROE, 3% growth, 9.6% cost of equity).




LIM Sue Lin DBS Vickers | http://www.dbsvickers.com/ 2017-05-09
DBS Vickers SGX Stock Analyst Report HOLD Maintain HOLD 10.300 Same 10.300



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