Singapore Banks - OCBC Investment 2019-07-24: Lower Rates Ahead, Prefer UOB

Singapore Banks - OCBC Investment Research | SGinvestors.io DBS GROUP HOLDINGS LTD (SGX:D05) OVERSEA-CHINESE BANKING CORP (SGX:O39) UNITED OVERSEAS BANK LTD (SGX:U11)

Singapore Banks - Lower Rates Ahead, Prefer UOB


Upcoming 2Q19 results for Singapore banks

  • The upcoming 2Q19 results for Singapore banks (DBS (SGX:D05) – 29th July, UOB (SGX:U11) – 2nd August) should still reflect mid-single digit loan growth and modest margin improvements helped by the lagged pass-through of higher short term rates and mortgage loans re-pricing activities earlier in the quarter.
  • Attention however will focus on the sector’s future earnings outlook given expectations of impending Fed rate cuts. Singapore banks are also due to declare interim dividends, which should be broadly in line with previous dividend levels given moderating growth prospects expected ahead.



Singapore banks had maintained their return-on-equity (ROE) targets

  • In recent investor meetings, Singapore banks had maintained their return-on-equity (ROE) targets for this year despite macro concerns and reiterated confidence in sustaining net interest margins in 2Q, supported by mortgage rates re-pricing and benign asset quality trends.
    • DBS targets 12.5% ROE this year and aims to bring its cost-income ratio down from current 43% towards 40% over time, while
    • UOB’s ROE target of ~12% was also maintained despite some increased competition for mortgages locally.
  • However, we anticipate more challenges for the sector in maintaining these targets next year as the earnings outlook will be dependent on the future direction of interest rates and regional growth prospects.
  • Given that Singapore’s short end rates historically follow in the same direction as Fed rates, net interest margins (NIMs) of Singapore banks should peak out this year as the sector starts reflecting NIM headwinds in 2H19 from a series of expected Fed cuts.
  • Hence, while we maintain a constructive stance on Singapore banks due to the sector’s reasonable valuations, relatively stable asset quality and its steady and sustainable dividends stream, with the impending rate cuts led by the Fed as interest rate expectations turn dovish, we advise investors to be more selective on entry points for fresh positions.


Valuations of Singapore banks

  • Valuations of Singapore banks (at ~1.3x price/book) are still reasonable, trading close to the sector’s long term historical average multiple. Within Asia financials, we think Singapore banks should still be relatively better supported by strong capital levels (average CET1 ~14%, vs. the regulatory minimum at 9%), relatively stable asset quality and attractive dividend yields.
  • Year to date, DBS has led the sector’s out-performance over the STI index with total returns of ~16% (vs STI’s ~12%) while UOB has moved in line with the broad equity market with total returns of ~12%. See DBS share price; UOB share price.


UOB should be a more defensive pick

  • With a lower interest rate environment expected ahead and following our house’s previous call to lock in some profits in Singapore banks earlier this year, we currently prefer UOB over DBS.
  • At this point in the cycle where NIMs are expected to peak out, we think UOB should be a more defensive pick for its undemanding valuations (cheaper than DBS), relatively lower exposure to US rate cuts (i.e. proportion of US rate related loans) and less volatile non-interest income track record. UOB also has lower Greater China exposure (Greater China accounted for ~10% of UOB’s 2018 revenues, vs ~30% for DBS) which is seeing moderating growth momentum, due to its strategic positioning to capture growth in Southeast Asia economies.
  • On the other hand, DBS has benefited the most during the past rate cycle with NIMs gaining ~20bps since 2H2014 and is expected to be more sensitive to impending rate cuts (given its higher loan deposit ratio of 87.9%, and higher estimated exposure of > 80% of gross loans in US-rates related currencies e.g. USD, HKD, SGD, versus ~66% for UOB).
  • Upside risks for banks’ earnings ahead include fewer than expected Fed rate cuts and better than expected fee income growth and cost management to mitigate margin pressures.





OCBC Research Team OCBC Investment Research | https://www.iocbc.com/ 2019-07-24
SGX Stock Analyst Report HOLD MAINTAIN HOLD 28.000 SAME 28.00
NOT RATED MAINTAIN NOT RATED 99998.000 SAME 99998.000
HOLD DOWNGRADE BUY 29.400 SAME 29.400



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