UOBKH: Singapore Banks (Overweight)

2Q22 Results Preview: A Rising Tide Lifts NIMs For All Banks

Rising interest rates are expected to lift NIM by 7bp qoq to 1.53% for DBS and 4bp qoq to 1.59% for OCBC in 2Q22. We see weakness in wealth management fees but asset quality remains benign. We forecast net profit of S$1,614m to be achieved for DBS (-5% yoy and -10% qoq) and S$1,127m for OCBC (-2% yoy and -16% qoq). DBS and OCBC have corrected 17% and 14% respectively from their recent peaks. BUY DBS (Target: S$39.50) and OCBC (Target: S$14.75). Maintain OVERWEIGHT.

WHAT’S NEW

• The three local banks will be announcing their 2Q22 results on 29 July (UOB), 3 August (OCBC) and 4 August (DBS).

• DBS Group Holdings (DBS SP/BUY/S$30.85/Target: S$39.50)

• We forecast net profit to moderate by 5% yoy and 10% qoq to S$1,614m for DBS Group Holdings (DBS) in 2Q22. The pullback on a sequential basis was due to a high base with huge write-back in general provisions of S$112m in 1Q22.

• Strong pass-through to domestic interest rates boosted NIM expansion. We expect healthy loan growth of 5.2% yoy and 1.0% qoq in 2Q22. NIM has expanded by a massive 7bp qoq to 1.53% with the US Fed hiking Fed Funds rate by 125bp to 1.5%. There is strong pass-through to domestic interest rates with SORA and three-month SIBOR rising 105bp and 112bp qoq respectively to 1.66% and 1.91% during 2Q22.

• Wealth management bearing the brunt of Russia-Ukraine war. Contribution from wealth management dropped 10% yoy due to full-quarter impact from the Russia-Ukraine war, which affected market sentiment and increased high net worth clients’ risk aversion. Fees from transaction services are expected to be flat. Contribution from cards, the lone bright spot, increased 18% yoy due to resumption of business and leisure travel.

• Non-interest income lower yoy due to high base. We expect other non-interest income to decline 29% yoy in 2Q22. Both net trading income and gains from investment securities are expected to be lower compared with last year.

• We expect operating expenses to increase 5.8% yoy and cost-to-income ratio at 44.9%.

• Asset quality remains benign. We expect NPL ratio to be stable at 1.3%. DBS has ample management overlay for general provisions, which were set aside previously due to the COVID-19 pandemic. We do not expect any write-back in general provisions in 2Q22 due to the uncertain economic outlook. We expect credit cost to remain low at 15p in 2Q22 before normalising higher in 2H22.

• We expect DBS to maintain quarterly dividend at 36 S cents for 2Q22.

• Our target price of S$39.50 is based on 1.72x 2023F P/B, derived from the Gordon Growth Model (ROE: 13.6%, COE: 8.5%, growth: 1.5%).

• Oversea-Chinese Banking Corporation (OCBC SP/BUY/S$11.55/Target: S$14.75)

• We forecast net profit of S$1,137m for 2Q22, a decline of 2% yoy and 16% qoq. The pullback on a sequential basis was due to low total provisions of S$44m in 1Q22.

• On track to achieve mid-single-digit loan growth. We expect loan growth of 6.5% yoy and 0.5% qoq in 2Q22, driven mainly by network customers expanding overseas to acquire logistics, data centre and student accommodation properties and sustainable finance. We expect NIM to expand by 4bp qoq to 1.59%.

• Fees affected by weakness in financial markets and economic slowdown. We expect fee income to drop 11% yoy in 2Q22. Contribution from wealth management is expected to decline 17% yoy as investors’ risk appetite was affected by the Russia-Ukraine war. Loans & trade-related fees are expected to be flat. Contributions from insurance declined 22% yoy due to mark-to-market losses from Great Eastern. Equity
markets in Singapore and Malaysia have declined 9% in 2Q22. Bond markets were in the doldrums with 10-year government bond yield rising 66bp to 2.98% in Singapore and 45bp to 4.30% in Malaysia. We also expect net trading income to be muted at S$120m.

• Moderation in credit costs. We expect asset quality to be stable. OCBC has set aside management overlay of more than S$400m, which is above the amount of general provisions required by its macro-economic variable (MEV) model. We expect higher credit costs of 24bp in 2Q22 (1Q22: 6bp).

• Our target price of S$14.75 is based on 1.19x 2023F P/B, derived from the Gordon Growth Model (ROE: 10.0%, COE: 8.5%, growth: 0.5%).

ACTION

• The Fed’s renewed fervour to clamp down on inflation. The Fed has accelerated the tempo of interest rate hikes to quell inflationary pressures. It hiked the Fed Funds Rate by a massive 75bp to 1.50% after the FOMC meeting on 15 Jun 22. Based on the Fed’s dot plot, the median projected path for Fed Funds Rate would hit 3.4% by end-22 and 3.8% by end-23. The forecast translates to four hikes totalling 200bp in 2H22, and we expect another 75bp hike on 27 July. The rate hikes are front-loaded in 2022 and the intensity of rate hikes could ease after the FOMC meeting on 21 Sep 22.

• Not overdoing on the rate hikes. Governor Christopher Waller said that a 75bp hike for the FOMC meeting on 27 July is his base case. He sees it as appropriate due to signs that the economy is slowing. Several Fed officials have also signalled their support for a 75bp hike, including Mary Daly of San Francisco Fed. Even the hawkish James Bullard of St Louis Fed sees the virtue of a 75bp hike, which brings the Fed Funds Rate in line with the neutral level. The Fed has not raised rates by a full percentage point since it adopted the Fed Funds Rate as its policy setting tool in the early 90s. Investors may have gotten ahead of themselves in anticipating rate hikes.

• Exposure to Mainland China. Singapore banks predominantly service the offshore needs when Chinese companies expand overseas through trade and investments. The trade finance and loan facilities provided are usually denominated in the US Dollar and booked offshore in Singapore and Hong Kong. Banks also support existing network customers within ASEAN when they expand into China. Their involvement in domestic business activities of domestic companies is small. Our banks do not have exposure to residential mortgages in Mainland China.

• Maintain OVERWEIGHT. Banks gain bargaining power as liquidity is tightened due to higher interest rates and quantitative tightening. They benefit from NIM expansion with DBS being the most sensitive to higher interest rates. The Russia-Ukraine war causes inflation to be elevated, which could keep bond yields higher for longer. OCBC and UOB benefit from reorientation of supply chains towards ASEAN countries. BUY DBS (Target: S$39.50) and OCBC (Target: S$14.75) for their 2022 dividend yields of 4.7% and 4.8% respectively.

SECTOR CATALYSTS

• NIM expansion in 2022 and 2023, driven by upcycle in interest rates.
• Economic recovery driven by the reopening and easing of COVID-19 restrictions.
• Banks pay more dividends as risks emanating from COVID-19 pandemic recede.

ASSUMPTION CHANGES

• We raised our DBS earnings forecast for 2023 by 1.6% with positive impact of NIM
expansion partially offset by slowdown in growth of fee income.

• We kept our OCBC earnings forecast for 2023 relatively unchanged with positive impact of NIM expansion offset by slowdown in growth of fee income and higher operating expenses.