Singapore Banks - Maybank Kim Eng 2019-05-16: Through The Fog Of War

DBS GROUP HOLDINGS LTD (SGX:D05) OVERSEA-CHINESE BANKING CORP (SGX:O39) UNITED OVERSEAS BANK LTD (SGX:U11)

Singapore Banks - Through The Fog Of War

Price performance for the Singapore banks has contracted 8% in the past two weeks following a strong YTD performance (+14%). On a 12-month forward PE basis, the sector is trading at 10x, a 13% discount to the long-term mean.
We believe an element of profit taking following strong performance, coupled with contagion from US-China trade tensions, have contributed to this de-rating. See DBS share price, OCBC share price, UOB share price.
Operationally, the recently concluded 1Q19 results season points to a different story. We expect ROEs to expand 59bps between 2018-2021E driven by a troika of:
1. Rising margins;
2. Positive loan growth;
3. Benign asset quality.

Many of these changes are driven off structural reform the banks have undergone since the GFC. These banks have shifted away from volatile trading-income-dependent earnings to more interest-and fee-income-driven earnings. In 2010, interest income generated just 59% of total income. Today it generated 66%. Similarly, in 2010 fees and commissions contributed under half of total non-interest income. Today this is 70%. As a result, the Singapore banks offer a deeper level of earnings visibility now vs 10 years ago and vis-a-vis their regional peers.
This visibility should provide effective shielding against macro uncertainty – especially driven by US-China trade tensions. Together with strong capital positions and balance-sheet liquidity, the Singapore banks should be beneficiaries of a return-to-quality scenario, we believe.
We have tweaked earnings and target prices by 1-3% for our coverage post 1Q19, but our recommendations are unchanged: BUY UNITED OVERSEAS BANK LTD (UOB, SGX:U11) and DBS GROUP HOLDINGS LTD (SGX:D05), HOLD OVERSEA-CHINESE BANKING CORP (OCBC, SGX:O39).
With a near 5% dividend yield and unchallenging valuation, the sector will offer a sanctuary as investors look for quality and safety. See DBS dividend history, OCBC dividend history, UOB dividend history.
Maintain POSITIVE outlook for Singapore banks.

Sector NIMs improved 3bps y-o-y in 1Q19. Without UOB, NIM’s for DBS and OCBC improved on 8bps y-o-y on average. Lending yields increased 44bps y-o-y as banks re-priced board-rate-linked mortgages upwards in the quarter.
In 1Q19, all three banks have pushed through 1-2 price escalations, according to management. This trend was consistent across all three banks. Indeed, the impact of these changes will linger for 2-3 quarters more as these loan price increases filter through to earnings.
Despite SIBOR increasing 48bps y-o-y, overall funding costs increased just 3bps y-o-y – the slowest pace of growth in six quarters. There was an urgency by the banks, both domestic and foreign, in Singapore to build balance-sheet liquidity and stay ahead of rising rates, but this seems to be easing now. Low-cost CASA deposit growth was flat y-o-y in 1Q19, while fixed and other higher-cost deposits grew 13% y-o-y. With the US Fed guiding for a dovish outlook, we believe this trend will reverse and provide for more benign funding costs going forward. This should provide further upside support for spreads (+7bps 2018 – 2021E).

Separately, UOB’s NIMs contracted 5bps y-o-y in 1Q19. This is the second consecutive quarter of contraction. This is primarily a function of excessive pre-funding of UOB’s balance sheet liquidity.
Higher cost fixed deposits expanded 8.4% y-o-y vs 5% y-o-y for total deposits. This trend is unlikely to be repeated and management claims that deposit growth has slowed down in 2Q19. As a result of retreating funding cost pressure, we believe UOB NIMs are at an inflection point.

While system loans expanded 3.8% y-o-y in 1Q19, the sector saw a 7.1% y-o-y expansion. This was primary driven by overseas loan growth (+7.8% y-o-y), where 53% of sector loans are booked.
Increasing exposure to higher-growth markets overseas provides an effective countermeasure for slower growth at home. Indeed, according to MKE Economics team, the key markets Singapore banks have operations in, such as Indonesia, Malaysia and Thailand will have credible GDP growth momentum in 2019E.
Having said that, domestic sector loans also improved 6.2% y-o-y in 1Q19, well above the system, largely driven off non-trade corporate loans. The banks claim to have a good pipeline of demand for such loans and an accommodative interest rate environment should provide further upside here, in our view.

New NPL formation was the lowest in five years despite macro uncertainty and economic outlook downgrades. According to management teams across all three banks, underlying businesses are reporting healthy cashflows and re-payment outlook remains clear. A similar trend is observed in the retail and SME segments, which tend to be more sensitive to economic cycles historically.
This is likely driven off strong domestic consumption stories in the markets the banks are operating in and the continued expectations of positive GDP growth. Despite US-China trade war uncertainties, GDP growth has not been cut to negative in any key markets by MKE’s economics team.
While this would normally prompt us to lower credit-charges assumptions, we chose to maintain or slightly increase them given trade-war-related uncertainty currently. Any improvement in this scenario should provide potential upside surprise to earnings going forward

Thilan Wickramasinghe Maybank Kim Eng Research | https://www.maybank-ke.com.sg/ 2019-05-16

SGX Stock Analyst Report BUY MAINTAIN BUY 29.460 SAME 29.460

HOLD MAINTAIN HOLD 11.07 SAME 11.07

BUY MAINTAIN BUY 28.97 SAME 28.97