DBS GROUP HOLDINGS LTD (SGX:D05)
OVERSEA-CHINESE BANKING CORP (SGX:O39)
UNITED OVERSEAS BANK LTD (SGX:U11)
Singapore Banks 2020 Outlook - OVERWEIGHT
Banking Sector - 2019 recap
A year of Fed rate cuts – how much more can the banks endure?
- The tide of expanding margins turned as the Fed turned dovish amid recent signs of economic weakness (against lower inflation and a slump in business activity due to the trade war uncertainties), and switched gears into cutting policy rates three times since Jul 2019. This triggered multiple cuts by regional central banks, resulting in a 2-4bp sequential NIM compression across the Singapore banks as early as 3Q19 itself. Consequently, local banks have revised FY19 NIM expectations, and guided for continued compression of as much as 5-10bp in FY20.
- While tapering NII growth is likely, we look forward to banks reaping some funding cost savings in offsetting the margin weakness especially as 3MSIBOR begins to trend lower. Banks with larger proportions of fixed deposits (OCBC 45% and UOB 52%) should see heftier savings from the roll-over of longer-tenured funding at lower interest rates.
Weak credit expansion as domestic GDP growth revised downwards –
- FY19 loan growth was weaker across the board as corporate business sentiment stayed subdued on the back of the prolonged US-China trade war tensions and mortgage demand remained sluggish from cooling measures implemented earlier in Jul 2018. Although the banks’ Hong Kong operations largely play a facilitating role in the expansion of Chinese corporates into SEA, uncertainties surrounding the protests had nevertheless thrown another spanner in the works.
- Full year growth is likely to come in at a low single digit for both DBS (SGX:D05) and OCBC (SGX:O39), and mid-single digit for UOB (SGX:U11) amid the lowered Singapore GDP growth forecast of 0.5-1% for FY19 (from the initial forecast of 1.5-3.5%).
- While the Ministry of Trade and Industry’s more upbeat forecast of 0.5-2.5% GDP growth in FY20 projects confidence of an economic recovery albeit gradual, loan growth levels could hover around current levels in the absence of the catalyst of neutralised trade tensions.
Credit costs affected by unexpected HK uncertainties –
- Underlying credit cost trends, particularly specific provisions, were intact in 1H19 as conditions stayed mostly benign. These were also helped in part by write backs for previous O&G provisions (DBS) and expected credit loss (ECL) model validation improvements (UOB). That said, the reactionary feature of IFRS 9 on bank ECL models renders them volatile as soon as signs of potential credit deterioration appears, as it did in view of weaker hospitality, wholesale and retail trade activity as well as depressed rental rates due to the HK uncertainties in late-2Q19.
- To date, DBS and OCBC have set aside additional credit costs in the form of precautionary macro overlays in their ECL models (DBS: +14bp GP, OCBC: +7bp GP) although all three banks stress that their HK portfolios remain intact. Asset quality of the Singapore banks is still deemed solid, although we expect an uptick in NPLs over the next year as economic sluggishness persists.
Wealth inflows and trading gains surprised on the upside –
- Resilient non-interest income drivers were key to offsetting sluggish corporate demand and NIM negativity in FY19. In particular, wealth management income levels swung from strength to strength as rewards from the Singapore banks’ acquisitions of wealth franchises in previous years trickle through. AUM growth was consistently strong (8-10% y-o-y), and this should sustain base churn levels through risk-on risk-off periods. Singapore’s increasing popularity as the region’s geopolitical safe haven of choice adds to this.
Banking Sector - 2020 outlook
- The environment of weak regional growth amid falling interest rates emphasises the need more than ever for disciplined cost control and resilient non-II drivers. We expect to see iterations of 3Q19 – where various non-II income lines offset the loan growth and margin weakness – replay over FY20F. We think the three banks have taken precautionary buffers for higher credit costs against the escalating unrest in HK and negative macro overlay, leaving room for reversals in 2H20F if the situation improves.
- We believe that the capital market strength, strong investment pipeline and the risk-on/off sentiment from the US–China tensions are key catalysts. The key trends we expect to see are:
Continued strength in non-II income lines with wealth management income being a key driver of growth.
- We expect to see pipeline deals coming on stream in FY20 in line with the sequential recovery of GDP growth. From MAS statistics, we noted larger foreign currency deposit inflows into Singapore in the past quarter (+S$7.1bn over Jul-Sep 2019). We expect some of these flows to trickle into the system, mainly reflected in wealth products and trading activity.
Credit costs to be the wildcard next year.
- Apart from macro-related ECLs, impairments have been largely limited to one-off exposures; major sectoral deterioration does not seem likely at this juncture. That said, a further escalation in HK uncertainties could force the banks’ hands in terms of provisions. DBS, OCBC and UOB’s HK exposures accounted for 16%/13%/11% of total loans as at end-Sep 2019.
- We understand that most of these exposures are attributable to large conglomerates or are backed by collateral, and operational cashflows appear to still be holding up well. But in any case, the weakened growth prospects of HK could spur the banks to pivot their businesses into Mainland China or SEA.
Cost containment – the next lever.
- Weaker earnings growth could push the banks towards more aggressive cost control. Digital initiatives and staff costs are likely to be the largest components of costs going forward; on this front, OCBC could be see expenses ballooning relative to peers especially if a (separate) digital banking licence comes its way; it is currently the only bank without a stand-alone digital bank and we strongly believe that it will be part of a consortium bidding for one of the licences come end-2019. DBS and UOB have been more proactive in their digital strategies – incremental costs are likely to be relatively minimal.
Virtual banks licences to come online.
- We expect the MAS to approve up to five digital bank licences next year (2 retail, 3 wholesale) although operations could start at a later stage in 2021. Payment income and deposit bases are the most likely areas of disruption; we estimate the new players to affect banks’ DBU deposits by 4-11%, albeit in the longer term.
- We expect players with ready ecosystems in multiple business streams (such as Grab with its ride-hailing and payment platform) to gain traction fairly quickly, but such players are rather few in the market.
Banking Sector - Valuations
- Sector valuations have retracted to an attractive 1.1x P/BV (below the 1.3x long-term mean) on the back of trade war fears but c.5% yields are likely to support share prices. More granularly, OCBC and UOB trade at 1.0-1.1x P/BV (-1 s.d. below mean, ROE: 11%) while DBS is relatively more expensive at 1.3x P/BV (+0.5 s.d. above mean, ROE: 12.4%). US-China trade tensions have been drawn out over more than a year, and these sentiments are likely to have been priced in. We see scope for some upside in share prices as the negativity on macro weaknesses and Fed rate cuts start dissipating as GDP growth recovers.
- Singapore banks are an attractive yield play compared to regional Financials. We believe that its c.5% yields will provide some baseline support to share prices against the ebb and flow of US-China trade tensions. Its long-standing track record of solid asset quality also gives assurance of capitalisation staying intact – providing visibility to dividends to a certain extent. Furthermore, we see scope for upside in dividend payout ratios given strong capital accretion amid limited near-term M&A prospects.
Banking Sector - Top picks & least preferred
- DBS is our top pick for the sector. The bank’s NIMs have been the most resilient among its peers in the face of multiple policy rate cuts in the region. That said, further compression is likely as S$ rates fall further in a fashion similar to 3MLIBOR. DBS has been proactive in setting aside precautionary buffers for macro weaknesses and geopolitical tensions. To date, the bank has provided for 14bp in its general reserves pool – the highest among peers – some against potential deterioration from the uncertainties. We expect wealth income to sustain, offsetting some NIM negativity. There could also be upside to dividends, given the lack of near-term M&A targets.
- See DBS Share Price; DBS Target Price; DBS Analyst Reports; DBS Dividend History; DBS Announcements; DBS Latest News.
- OCBC is our least preferred pick. While non-II income is similarly a key driver of growth for OCBC, its earnings performance tends to be more volatile given the MTM component on shareholder funds of its insurance arm, GREAT EASTERN HOLDINGS (SGX:G07). The bank also appears more susceptible to corporate credit weaknesses. Its capital buffers are strong and this should provide dividend visibility (payout ratio of 40-50%), but an increasingly high CET-1 ratio (currently 14.4%) adds to the risk of a non-accretive M&A deal.
- See OCBC Bank Share Price; OCBC Bank Target Price; OCBC Bank Analyst Reports; OCBC Bank Dividend History; OCBC Bank Announcements; OCBC Bank Latest News.
- Company report:
LIM Siew Khee
CGS-CIMB Research
|
Andrea CHOONG
CGS-CIMB Research
|
https://www.cgs-cimb.com
2019-12-09
SGX Stock
Analyst Report
28.290
SAME
28.290
11.940
SAME
11.940
29.100
SAME
29.100
