Singapore Banks - UOB Kay Hian 2020-03-10: The Magic Number Is 6%

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

Singapore Banks - The Magic Number Is 6%

  • We cut our 2020 net profit forecasts for DBS by 5.8% and OCBC by 3.7% due to:
    • further NIM compression on a 75bp cut in Fed funds rate in 1H20; and
    • additional credit costs of about 5bp due to exposure to the oil & gas sector.
  • Dividend yields have surged to 6% after the recent steep share price correction, a rare occurrence over the past 30 years.
  • OCBC is trading below BVPS and at an attractive 0.88x 2020F P/B.
  • Maintain OVERWEIGHT. Re-iterate BUY for DBS (SGX:D05) and OCBC (SGX:O39).



WHAT’S NEW


COVID-19 has spread to the US.

  • The US reported its first confirmed case of COVID-19 infection on 20 Jan 20, a 35-year-old man in Washington State who had visited family members in Wuhan, China. However, new confirmed cases have surged recently. To date, the US has 564 confirmed cases and 22 deaths across 32 states as of 9 Mar 20.

War with COVID-19 has just started.

  • Chairman Powell see effects of COVID-19 at an early stage. Health authorities will step up testing. Business confidence and economic activities will be affected as the number of new cases rise. Many business conferences have already been cancelled. The disruption to manufacturing supply chain and weaker economic activities in Asia would also weigh down the US economy.

Challenges facing health authorities in the US.

  • About half of service workers (one quarter of the workforce) in the US, who have direct contact with the general public, do not have paid sick leave. They could turn up for work even if they are unwell. 27.5m people do not have health insurance (8.4% of US population). They are less likely to seek tests or medical treatment. The US is also reportedly short of test kits.

The Fed has responded aggressively.

  • The Feb sees COVID-19 outbreak posing risks to economic activities and has cut the Fed funds rate by 50bp to 1.00-1.25% on 3 Mar 20 (unanimous decision by all voting members). While easing of monetary policy is not a vaccine, the rate cut by the Fed will engender accommodative financial conditions and avoid any tightening of liquidity, which is supportive of growth in economic activities. It will also provide a meaningful boost business and household confidence.

High probability of another rate cut.

  • Rate cuts that occur between the Fed’s regular scheduled FOMC meetings, which are responses to urgent and unfolding shocks, are typically followed by another rate cut in the next FOMC meeting. Thus, we expect another rate cut of 25bp in the next FOMC meeting scheduled on 17-18 March.

Domestic interest rates have receded in tandem.

  • In the US, 10-year government bond yield has collapsed by 1.38ppt ytd to 0.54%, a historic low. In Singapore, 3-month SIBOR and 3-month SOR have receded 31bp and 72bp ytd respectively to 1.46% and 0.82% in March. Yield for 10-year government bond has also dropped by 0.73ppt to 1.01%.


ACTION


Further NIM compression.

  • The Fed completed its mid-cycle series of three insurance cuts in interest rates in 2H19 (July, September and October), lowering the Fed funds rate from 2.25-2.50% to 1.50-1.75%. We anticipate another cut of 75bp to 0.75-1.00% in 1H20.
  • Our regression analysis indicates that every 100bp rise in 3M SIBOR would result in NIM expansion of 14bp for DBS (lags by one quarter), 11bp for OCBC and 6bp for UOB. DBS benefits the more when interest rates rise. Conversely, DBS would suffer more when the Fed funds rate is cut.
  • We estimate NIM compression of 8bp in 2020 (previous: 6bp) and 4bp in 2021 (previous: flat) for DBS. For OCBC, we estimate NIM compression of 6bp in 2020 (previous: 5bp) and 3bp in 2021 (previous: flat).

OCBC and UOB trading below BVPS.

  • We estimate end-20 BVPS at S$20.06 for DBS and S$10.84 for OCBC.
  • DBS is trading at only 1.05x 2020F P/B, while OCBC is trading below BVPS at 0.88x 2020F P/B (1SD below long-term mean).

Attractive dividend yields scream BUY.

  • Over the past 30 years, DBS and OCBC had hit above dividend yield of 6% once (GFC) each and UOB twice (AFC and GFC). A steep share price correction that causes dividend yield to overshoot to 6% tends to be followed by a sharp rebound. DBS and OCBC currently trade at attractive 2020F dividend yields of 6.2% and 5.9% respectively.
  • We expect dividend payouts for Singapore banks to be sustainable due to strong CET-1 CAR, which are above 14%. The banks also have the option to turn on their scrip dividend scheme should regional economies slip into a recession.

USING DIVIDEND YIELD TO SET ENTRY LEVELS

(S$) DBS OCBC UOB
DPS 1.32 0.56 1.20*
Dividend Yield at 5.0% 26.40 11.20 24.00
Dividend Yield at 5.5% 24.00 10.18 21.82
Dividend Yield at 6.0% 22.00 9.33 20.00

* Exclude special dividend
Source: UOB Kay Hian

Maintain OVERWEIGHT.

  • Banks are yield plays. DBS and OCBC provide attractive dividend yields of 6.2% and 5.9% respectively, which differentiate them from regional peers. We see their dividend payout ratios as sustainable due to their robust CET-1 CAR.


SECTOR CATALYSTS

  • Banks evolving into yield plays.


ASSUMPTION CHANGES

  • We our 2020 net profit forecasts for DBS by 5.8% and OCBC by 3.7% due to:
    1. moderation in loan growth;
    2. further NIM compression assuming FED reduced by 75bp in 2020;
    3. moderation in fee growth, especially for credit cards; and
    4. additional provisions due to exposure to the oil & gas sector.


RISKS

  • Outbreak of COVID-19 affecting growth and credit costs in 2020.
  • Economic slowdown in China.


Singapore Banks Share Price & Target Price






Jonathan KOH CFA UOB Kay Hian Research | https://research.uobkayhian.com/ 2020-03-10
SGX Stock Analyst Report BUY MAINTAIN BUY 26.20 DOWN 28.000
BUY MAINTAIN BUY 12.25 DOWN 12.800
NOT RATED MAINTAIN NOT RATED 99998.000 SAME 99998.000



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