The Singapore banks had a strong start to 2022 where UOB (+5.1%), DBS (+4.8%), OCBC (+4.2%) in the first 5 trading days. 

Last Wednesday, Federal Reserve meeting minutes pointed to a faster-than-expected rise in U.S. interest rates due to concerns about persistent inflation.

In a research note published on 5 January, Macquarie Research (MQ) gave a summary of their views of how Singapore banks will perform as the rate cycle plays out…

Key points 
•    Macquarie’s Desk Strategists now expect 3 US Fed Rate Hikes from 2Q22e (6 months earlier), with the tightening cycle lasting till 4Q23e

•    MQ upgrade Singapore banks estimates by 0.4%/4.7% on average for 22e/23e. MQ is ahead of VisibleAlpha consensus on NIMs in 23e

•    UOB remains its top pick (Marquee idea), with DBS most sensitive to rates. Each 25bps of higher rates leads to a 6bps higher NIM for the sector

Tightening from 2Q22e 

• MQ is overweight Singapore banks heading into 2022, with its top pick being UOB (Marquee Idea), followed by DBS (strongest leverage to rate hikes). Macquarie’s Desk Strategists recently brought forward their expectations of Fed Funds Rate hikes to 2Q22e and have refined their global inflation expectations to reflect normalisation by 4Q22e.

• The Singapore banks have an average 6bps positive impact on Net Interest Margins, MQ estimate, over 12 months, in response to each 25bps US$ 3- month rate increase. 

Key issues as the rate cycle plays out 

• Breaking out share-price performance. Analysing tightening cycles over the past 20 years, MQ observe, on average, ~40% of the share-price performance was delivered as the yield curve steepened (ahead of the Fed), ~40% during the period the Fed is hiking rates and ~20% during the period when the banks report higher NIMs. The key variables to watch this time are the CPI normalising into 4Q22e and China’s growth (important for the region) at over and above 5.0%.

 • A little inflation is helpful; too much can harm. One common concern among investors is if rising inflation will erode purchasing power and negate the improving asset quality trend. A study by ratings agency Fitch on US banks’ performance over 37 years concluded a CPI between 1%-3% was optimal for loan losses and banking ROA, with a CPI >4% lifting loan losses. 

• Impact of recent property cooling measures. MQ’s revised forecasts include its tempered retail loan growth assumptions (4.5%/4.0% vs 5.0%/5.0% previously in 22e/23e) in response to the recent property cooling measures. Macquarie’s Singapore Property research team, led by Derrick Heng, notes the measures were milder than anticipated, targeting the investor market. 

Order of preference UOB > DBS > OCBC 

• UOB is on Macquarie’s Asia Marquee list as a long idea. MQ reiterate its S$33/share price target. Alongside rising rates, UOB has leverage to improving domestic conditions in ASEAN ex-Singapore, the highest general provision buffer and clear capital management (50% dividend payout). 

MQ has an Outperform rating for UOB with a price target of S$33/share ng Price-to- Book (P/B) methodology

• DBS has the highest leverage to rising rates (+8bps, MQ expect, to each +25bps in US$ rates), and whilst upside to MQ’s fair value is narrower than peers’, MQ think it could be achieved earlier.

MQ has an Outperform rating for DBS with a price target of S$36.70/share using Price-to- Book (P/B) methodology