Singapore Banks - DBS Research 2019-06-25: Valuations Continue To Be Supported


Singapore Banks - Valuations Continue To Be Supported

  • Modest NIM expansion and mid-single digit loan growth continues to support earnings growth.
  • Fed cuts may spur liquidity-driven rally, but would pose downside earnings risks for banks in FY20F.
  • Singapore banks’ valuation should be supported by strong capital levels and decent dividend yields amid benign credit environment.
  • UOB is our top pick with S$29.20 Target Price; downgrade OCBC to HOLD with S$11.50 Target Price.

Diverging Net Interest Margin (NIM) trends

Expect SGD rates to come off gradually.

  • The spread between LIBOR and SIBOR has been narrowing as SGD rates (SIBOR and SOR) continue to push higher despite the fall in LIBOR (current 3MSIBOR is c.2%). We continue to observe that USD liquidity continues to be flushed while SGD remains tight amid the high loan-to-deposit ratio in the system.
  • DBS Group Research economists’ have forecast 3MSIBOR to decline 5-25bps by 4Q19 with LIBOR continuing to trend downwards, though it is expected that SIBOR-LIBOR spread will continue to remain tight assuming two rate cuts by end-2019.

Cost of funding unlikely to come down significantly so soon.

  • With liquidity still tight, cost of funding is unlikely to come down significantly anytime soon. Our channel checks across various banks indicate that SGD fixed deposits are still highly sought after by both local and foreign banks with competitive interest rates offered and decent interest from recent issues of Singapore Savings Bonds.

Diverging trends amongst the banks.

  • While UOB (SGX:U11) continues to guide for flat NIM through FY19F amidst higher cost of funds coupled with competitive pressures in wholesale banking loan yields, we believe OCBC (SGX:O39) is still poised to see further uptick in NIM as it continues to reprice its loanbook.

Loan repricing ongoing; mortgages a bright spot for 1H19.

  • Based on our channel checks, some repricing of mortgages is still ongoing in 2Q19 following repricing in 1Q19. In 1Q19, DBS/OCBC/UOB reported NIM improvement of 1bps/4bps/- 1bps q-o-q in 1Q19. We are forecasting NIM to improve by 1- 7bps through FY2019, with most of the impact to be felt in 1H19.
  • OCBC is likely to see the biggest improvement y-o-y in FY19F as the bank had previously held back repricing loans unlike its peers in FY18. As 3MSIBOR pushes past 2% in 2Q19 amid an easing environment, 1H19 should see most of the positive impact coming through from mortgages’ repricing in FY19.

Downside risks for NIM in FY20F should Fed cuts materialise as market continues to expect marginal NIM expansion for FY19F.

  • With markets now pricing in increased odds of a rate cut when the Fed meets in July and further cuts by end-2019, there may be downside risks for NIM in FY20, as repricing as a result of lower rates will take time and may not materialise in 2H19.
  • Currently, we believe market is still looking at marginal NIM expansion in FY19F. For FY20F, our sensitivity analysis shows that every 25 bps cut in interest rates will have 1-3bps impact on NIM. Every 10bps change in NIM has 5-7% earnings impact on banks’ FY20F bottom line. We are currently forecasting largely flattish NIM through FY20F

Loan growth moderates from high base in 2018

Loan book continues to grow +1.0% m-o-m in April.

  • Industry loan growth (DBU+ACU1) for Apr 19 grew by +1.0% m-o-m/ +4.0% y-o-y, continuing the strong uptick seen in Mar 19. The strong m-o-m growth continued to be largely driven by business loans (+1.2% m-o-m/ +5.2% y-o-y), especially manufacturing and building and construction loans. 
  • Consumer loans saw +0.4% m-o-m/ +0.7% y-o-y growth. Year-to-date, loan growth was +1.8%.

Mortgages continue to decline with property cooling measures.

  • For the third consecutive month, Singapore’s mortgages book continued to decline m-o-m, registering 0.3% m-o-m decline in Apr 2019. As of 1Q19, mortgages represent 24% of Singapore banks’ total loan book. We continue to track the sales progress of new residential development projects, having seen more new launches in May 2019.
  • DBS property analyst Derek Tan is of the view that overall developer sales are unlikely to slump significantly supported by robust yearly household formation but, in the meantime, popular projects will see better sell-through rates. We do not expect the mortgage book to contract severely, unless there is an accelerated slowdown in the economy with massive unemployment.

Heightened uncertainties might delay loan drawdowns in 2Q19 but still intact for FY19F.

  • In 1Q19, Singapore’s GDP continues to see support from construction and services producing activities, though overall GDP growth is expected to slow to c.2.1% for full year due to uncertainties in the external environment.
  • We expect full year loan growth for Singapore banks for FY19F to be c.5%, with the Singapore banks’ loans growth outpacing that of the industry’s as seen in 2018 where loan growth was buoyed by stronger growth in Singapore and the region (FY18: 8.5%). However, heightened uncertainties may lead to some of the originally expected loan drawdowns delayed from 2Q19 to 2H19. We expect FY20F loan growth to come between 4-5%.

Loans growth less sensitive to earnings...

  • We highlight that unlike NIM, sensitivity of loans growth to earnings is marginal - every 1ppt increase in loan growth has only less than 1% impact on earnings.

…and Singapore banks’ loan books should see support from infrastructure projects.

  • In the last few quarters, the banks have benefitted from strong drawdowns from en-bloc developers. While we expect the drawdown to taper off in 2H19, we believe that in FY20, loans growth will continue to be supported by the larger infrastructure projects such as Integrated Resorts 2.0 and Changi Airport Terminal 5 which are expected to cost closer to S$20bn together, though portions of it may be equity funded.
  • There should also continue to be support from cross-border loans growth.

Keeping a close watch on asset quality – a key to valuation support

Updates on property developer under receivership.

  • On 17 Jun 2019, Business Times reported that UOB, which is the mortgagee to two condo projects linked to the same developer, will bear the additional costs to finish the two projects under receivership if buyers waive rights to liquidated damages against progress payments. According to the URA database, both projects are close to fully sold.
  • Based on our understanding, both condo projects are near completion in terms of building progress and hence the costs to be incurred by UOB should be minimal. The portfolio represents < 0.1% of UOB’s Building and Construction loan portfolio based on our estimates.

Normalising credit costs; asset quality still intact.

  • With the exception of the property developer reported to be under receivership, we believe the asset quality of Singapore banks will continue to hold up and there is no concentrated deterioration in any sector or country as yet.
  • As we enter 2H19, we expect credit costs to continue normalising though historical mean levels. We continue to keep watch on the SME hich may reveal early signals of a slowing economy.

OCBC recognised one-off oil and gas related provisions in 1Q19.

  • OCBC had previously guided for credit costs to be 12-15bps in FY19F. However, special provisions rose to 32bps in 1Q19 as OCBC substantially reduced collateral valuations to write down vessels pending employment to scrap value on the back of weak demand for offshore support vessels due to availability of alternative energy sources. Hence, OCBC is likely to see higher provisions at c.22bps for FY19F.

Dividends and capital levels

Valuation support from strong capital levels, decent dividend yields in the meantime.

  • Over the decade, capital levels across the banks have improved in part due to stronger capital requirements under Basel III as well as accumulation of capital over the years. Baring significant deterioration of trade tensions, the banks’ valuations are supported by strong capital levels and decent dividend yields in the meantime.
  • See DBS dividend history, OCBC dividend history, UOB dividend history.

OCBC continues to shore up capital.

  • During 1Q19 results briefing, OCBC management had pointed towards the preference to conserve capital as it targets growth opportunities in the Greater Bay Area, where deregulation is seeing the removal of foreign banks’ ownership cap in Chinese banks. OCBC currently has 20% ownership in Bank of Ningbo which is listed on the Shenzhen Stock Exchange.

Valuation and Recommendation

UOB - our preferred pick.

  • We continue to like UOB as a defensive pick for
    1. its attractive dividend yield of c. 4.7% (see UOB's dividend history),
    2. smaller exposure to China among the local banks and
    3. a more defensive wealth management franchise as UOB continues to navigate cautiously in a moderating growth environment.
  • UOB is currently trading at c.1.0x FY20F BV; we believe valuations at -0.5 standard deviation below 10-year average are undemanding. See report: UOB - Supported By Strong Dividend Yield.
  • We downgrade OCBC to HOLD, with Target Price S$11.50, as we are of the view that OCBC’s dividend policy will continue to weigh on near-term OCBC share price performance given. We are cautious that potential inorganic growth opportunities may also be associated with execution risks. See report: OCBC - Limited Upside For Now.

Key risks: Downside risks from full blown trade war

Asset quality trend reversal.

  • It is largely expected that oil and gas related provisions and NPLs have been dealt with. A larger-than-expected NPL arising from the oil and gas sector, or generic sectors could indicate risks of a faster-than-expected slowing economy, and unwind expectations of credit cost and NPL declines, thus posing risks to earnings.
  • Based on our sensitivity analysis, every 5bps uptick in credit costs may impact sector earnings by c. 2.5%.

Slower-than-expected loans growth.

  • A breakdown in US-China trade talks, disappointing macro indicators and a less firm macroeconomic outlook going forward could temper our loans growth expectations, though we argue that several large infrastructure projects in the pipeline would provide support for loans growth.
  • Although loans growth is less sensitive to earnings, any deceleration as a result of weaker sentiment would dent topline prospects. A sharper-than-expected slowdown in the Singapore property market will cause mortgage books to shrink faster.

Rui Wen LIM DBS Group Research | https://www.dbsvickers.com/ 2019-06-25
SGX Stock Analyst Report HOLD DOWNGRADE BUY 11.500 DOWN 12.90