The fortunes of big banks are often tied to a country’s GDP growth, so when Singapore’s growth fell off a cliff in 2QFY2020, it was not surprising that the three local banks reported double-digit y-o-y declines in net profits in 2QFY2020 and 1HFY2020.
On Aug 11, the Ministry of Trade and Industry (MTI) revised downwards Singapore’s 2QFY2020 GDP growth to –13.2% y-o-y, from the advance estimate of –12.6%. The revision was mainly due to weaker manufacturing output in June. MTI has narrowed its FY2020 GDP growth forecast range to –7% to –5% from –7% to –4%, attesting to the impact of the Covid-19 pandemic on external demand, a slower reopening of national borders and the slower return to work of foreign workers. Indeed, this is the worst economic contraction in Singapore’s history which had deteriorated sharply from –0.3% in 1QFY2020.
Meanwhile in the banking sector, for the 1HFY2020 ended June, DBS Group Holdings reported 26% y-o-y lower net profit while Oversea-Chinese Banking Corp (OCBC) and United Overseas Bank (UOB) reported 42% and 30% y-o-y lower net profit respectively. In 2QFY2020 ended June, DBS’s net profit was 22.2% y-o-y lower while OCBC and UOB were 40.3% and 39.9% y-o-y lower respectively.
These are humbling figures, with OCBC and UOB missing analysts’ estimates because of hefty general provisions. Interestingly, OCBC’s operating profit in 2QFY2020 rose 9% q-o-q while OCBC Wing Hang’s net profit in 1HFY2020 rose 10% y-o-y.
On UOB’s 1HFY2020 results, CEO Wee Ee Cheong says, “Our core franchise has shown resilience especially in Southeast Asia where operating profit rose 13% y-o-y, and our operations in Vietnam turned profitable after two years of local incorporation.” However, UOB Vietnam reported net profit of $24 million which is small compared to UOB’s net profit of $1.56 billion in 1HFY2020.
Meanwhile, DBS’s 2QFY2020 bottom line was buoyed by profit from the sale of securities, which netted the bank $663 million in 1HFY2020. “Gain on investment securities more than tripled to $663 million as profits were realised on fixed-income securities which appreciated in value with lower interest rates,” the bank says in its financial statement.
During its results briefing, DBS CEO Piyush Gupta said DBS has a further $1.5 billion of mark-to-market gains in its securities books which can be called upon to cushion any sharp decline in earnings.
Among the three CEOs, Gupta sounded the most positive in terms of business segments. He indicated that DBS achieved $10 billion of non-trade loan growth from Singapore, Hong Kong and government schemes. In 1HFY2020, DBS announced loan growth of 3% y-o-y, or $12 billion. The growth includes the rescue package and rights issue drawn up for Singapore Airlines, as well as deals it structured in the technology, media and telco (TMT) space. Gupta says, “For trading, we had a knockout quarter. We normally expect this to be around $225 million a quarter. In 2QFY2020, it was $503 million.”
Lower for longer
When the Covid-19 pandemic hit the shores of the US and forced its economy to shut down, the US Federal Reserve turned on the taps, slashing the US Fed Funds Rate to zero and unleashing a wall of liquidity by offering to buy not just corporate bonds that ran into trouble, but riskier high-yield bonds as well. This quantative easing maximus caused policy rates in some developed markets to fall to zero and even negative levels.
This is detrimental to lenders, especially Singapore banks where more than 50% of earnings comes from net interest income. Net interest margin or NIM is calculated as the difference between the yields on loans and yields on deposits. Among the three, UOB’s NIMs fell to their lowest levels in 10 years, to 1.48% in 2QFY2020, averaging 1.6% in 1HFY2020. In addition to the plunge in interest rates, Wee of UOB attributes its lower NIMs to better credit. He explains, “Margins were impacted by a plunge in interest rates and in a shift to lower yielding but higher quality assets. Among our customer segments, 51% of loans are with large corporates, 15% with SMEs and 34% with individual customers. Large corporates are low yielding but generate healthy risk-adjusted returns. Most of our SMEs are in Singapore and Malaysia and secured by assets.”
In comparison, DBS’s NIMs held up better, falling to 1.62% in 2QFY2020 and averaging 1.72% in 1HFY2020. OCBC’s NIM fell to 1.6% in 2QFY2020 and averaged 1.68% in 1HFY2020.
When asked about new macro trends, Gupta says, “With the amount of money being printed, interest rates will be lower for much longer which will have a consequential impact on banking. It will also see a spillover on taxes and taxation policy.”
As for OCBC, CEO Samuel Tsien says, “We expect NIM will continue to be down. Our 2QFY2020 NIM was down 16bps q-o-q to 1.6% but the magnitude of the drop should not be as high in 2QFY2020.” On the other hand, Wee of UOB expects NIM to stabilise in the second half.
Inflation would help stabilise interest rates and some market watchers are worried this may happen, given the relative weakness of the US dollar. Gold prices rose to as high as US$2,000/oz while US core producer price index (PPI) in July rose 0.5% m-o-m, much stronger than expected. The monthly gain was the largest monthly increase since October 2018 and this caused US 10-year treasury yields to climb to a 3½ week-high of 0.653% on Aug 11.
Nevertheless, all three banks reported some loan growth. DBS and UOB reported 3% y-o-y loan growth as at June 30, while OCBC recorded 2% y-o-y loan growth. All three banks are guiding for single-digit loan growth this year.
Changing supply chains, new trends
In the wider economy, geopolitical tensions and the trade war between the US and China as well as the Covid-19 pandemic are expected to facture supply chains further.
In April, a temporary measures bill was passed that allowed SMEs and individuals affected by the “circuit breaker” lockdown to a moratorium on their loans including principal and interest payments. Banks are likely to be focused on exiting this moratorium in the near future.
Malaysia and Singapore will exit the moratorium this October and January 2021 respectively. Around 16% of UOB’s loans, or $45 billion, were disbursed under the government relief schemes. Of these, 90% are secured loans or loans with risk mitigated by the government. According to Lee Wai Fai, CFO at UOB, allowances for around 15% of these moratorium loans have already been recognised in UOB’s general provisioning (see sidebar below).
“Loans under moratorium will require further restructuring because we cannot expect business to catch up with deferment from day one. Before the moratorium expires, we would be actively looking at some of these accounts and if there is evidence that some will be permanently impacted we will impair them before moratorium expires,” says Lee.
For OCBC, some 10% of its loans are under moratorium, with 88% secured. “With regards to the moratorium, it depends on how fast the market can open up and whether economic activity will pick up,” OCBC’s Tsien says. “I have mentioned that 88% of total moratorium relief is done on a secured basis and these are real estate-related of which loan-to-value is below 60% so a super majority can be exited without credit cost to us. We are managing the exit as much as we can to make sure there is coordinated response to the programme.”
To be sure, the banks are looking further into the future when the crisis has blown over and digitalisation will play a large role. According to the banks, efficiencies from digitalisation are likely to keep costs on an even keel and all three have reported surges in digital transactions from both consumers and businesses.
“Consumption and production will digitalise more rapidly. Three to five years’ of digitalisation was done in three months due to Covid-19. A lot of that will stick,” Gupta says.
All three banks have made headways in sustainability too, having disbursed green loans. This focus on sustainability is set to persist. “Three years ago, we said we would like to build up a sustainable portfolio from below $1 billion to $10 billion and we’ve achieved that,” Tsien of OCBC says. His next target is 25 by 25, that is $25 billion of sustainable loans by 2025.
Regionally, China continues to figure large in the plans of the banks. Tsien says, “The greater bay area (GBA) will continue to be a focus for us and they have announced a wealth management initiative. It involves allowing Chinese residents to invest in Hong Kong and Hong Kong residents to invest into China so each will have an expanded range of products and regions.”
Shifts in the global supply chain, though inevitable, will find it hard to bypass China too. “There will be regions at the receiving end of capital investment. We believe China will be a major factor of economic activity in this region,” Tsien adds.
Seen as the most conservative of the local banks, UOB has made headways with its digital-only bank TMRW in the region. First launched in Thailand last February, it expanded into Indonesia this year. The plan is to roll out TMRW in five Asean countries. Next on the list is likely to be Vietnam where UOB announced it had registered Avatec.AI’s Vietnamese subsidiary. Avatec.AI is the artificial intelligence-driven credit assessment programme that is used by TMRW.
“TMRW shows how different engagement processes can be built. TMRW engages to transact and transacts to engage. Two things are happening with TMRW: the cost of transaction has come down and engagement has gone up,” UOB’s CFO Lee explains.
UOB has also built a largely Asean franchise and is looking to anchor itself more deeply in the region as supply chains move into economies like Thailand and Vietnam as the US-China trade and tech war ratchets up several notches.
The good news, according to many economy watchers, is a rebound is expected sometime in 2021 and this could even start as early as 2H2020. MTI is forecasting a GDP growth of –5% to –7% which suggests that 2Q2020 was the trough of the current cycle. It will still be cloudy out there, but economic conditions should improve from thereon. — with additional reporting by Jovi Ho
