OCBC
OVERSEA-CHINESE BANKING CORP
O39.SI
DBS GROUP HOLDINGS LTD
D05.SI
UNITED OVERSEAS BANK LTD
U11.SI
Singapore Banking - Stress Test To Uncover Breaking Points
- Banks are not out of the woods yet as we expect at least another two quarters of stress and deterioration in asset quality from the oil & gas sector. Our stress test indicates current share prices imply DBS’ and OCBC’s NPL ratios for OSS would hit 40-50% and valuation for collaterals would decline by a massive 70-80%.
- Our preferred BUY is OCBC as it is trading at 1.01x 2016F P/B, or 2SD below long-term mean, and downside is limited as its trough P/B was 0.83x during the global financial crisis.
- Maintain OVERWEIGHT.
WHAT’S NEW
Stress test on exposure to OSS.
- We stress test banks’ earnings and target prices based on two dimensions, namely:
- NPL ratio in the vulnerable offshore support services (OSS), a segment within the oil & gas (O&G) sector, and
- correction in collateral values.
- We made the following assumptions in our analysis:
- Loans were originated with loan-to-value (LTV) ratio at 60%.
- Asset quality for OSS deteriorates dramatically in 2H16 and NPL ratio for OSS hit 20-50% by end-16.
- Valuation for collaterals, such as support vessels, barges and rigs, realised by the banks on disposal declined 50-90%.
- Banks set aside specific provisions for the amount not covered by the recovery from sale of collaterals in 2H16. For example, a loan of S$30m was extended to purchase vessels worth S$50m. The vessel owner defaulted. Banks would need to set aside specific provisions of S$20m if the vessel was disposed at S$10m, assuming a decline of 80% in the valuation of collateral.
- For our Gordon Growth Model, we used a higher beta of 1.25 for DBS (imposing a heavy penalty due to its riskier exposure to the O&G sector) vs 1.05 for OCBC. Thus, our cost of equity (COE) is 8.75% for DBS and 7.75% for OCBC. We assumed zero growth for both DBS and OCBC.
Will banks trade below 1x P/B?
- Assuming zero growth, banks would trade below 1x P/B if ROE falls below COE of 8.75% for DBS and 7.75% for OCBC.
- Current share prices imply that DBS’ and OCBC’s NPL ratio hit 40-50% and valuation for collaterals would decline 70-80%.
ACTION
Strain from exposure to O&G sector.
- Banks faces risk from deterioration in asset quality from the O&G sector. In addition, sentiment remains fragile due to slower global growth and geopolitical uncertainties relating to the aftermath following Brexit (23 Jun 16) and the US presidential election (8 Nov 16).
- Our OVERWEIGHT sector call is premised on banks’ cheap valuations. DBS and OCBC trade at 2016F P/B of 0.89x and 1.01x, 1SD and 2SD below their respective long-term mean. They also provide attractive dividend yields of 4.0-4.2%.
- Our preferred BUY is OCBC as it is trading at 1.01x 2016F P/B, or 2SD below long-term mean, and downside is limited as its trough P/B was 0.83x during the global financial crisis (GFC). There are early signs that OCBC’s conservative approach to recognise NPLs early is working. An O&G loan in Malaysia that was restructured and recognised as NPL a year ago was upgraded in 2Q16. About 50% of its NPLs in the O&G sector are not overdue.
DBS Group Holdings (BUY/S$15.03/Target: S$17.80)
- Our target price is reduced to S$17.80, based on 1.05x P/B, derived from the Gordon Growth Model (ROE: 9.2%, COE: 8.75% (Beta: increased from 1.1x to 1.25x, Growth: 0.0%).
Oversea-Chinese Banking Corp (BUY/S$8.58/Target: S$10.30)
- Our target price of S$10.30 is based on 1.21x P/B, derived from the Gordon Growth Model (ROE: 9.4%, COE: 7.75% (Beta: increased from 1.0x to 1.05x, Growth: 0.0%).
United Overseas Bank (NOT RATED/S$18.00)
- UOB has the least exposure to the O&G sector. Loans extended to the sector amounted to S$9.3b, or 3.9% of total loans, compared with DBS’ S$20b (6.9% of total loans) and OCBC’s S$12.6b (6.1% of total loans).
- UOB is more resilient and well positioned to weather the current credit cycle.
SECTOR CATALYSTS
Economic growth has slowed in both Southeast Asia and China.
- Banks’ share prices have experienced massive correction. DBS is trading at 0.89x 2016F P/B (GFC: 0.67x) and OCBC at 1.01x 2016F P/B (GFC: 0.83x). Thus, downside is limited for OCBC as valuations are near the trough levels during the GFC.
ASSUMPTION CHANGES
- We maintain our earnings forecasts.
RISKS
- Further economic slowdown and political risks in regional countries.
PEER COMPARISON
Jonathan Koh CFA
UOB Kay Hian
|
http://research.uobkayhian.com/
2016-08-30
UOB Kay Hian
SGX Stock
Analyst Report
10.30
Down
10.48
17.80
Down
19.15
99998
Same
99998
