SINGAPORE (May 27): Excluding real estate investment trusts, the local banks are probably the safest dividend plays for now. This is despite growing geopolitical and economic uncertainties. In the short term, rising trade tensions and the increasing probability of slower global and US growth could weigh on their share prices.
Banks have always been seen through the lens of GDP growth. Their business models and strategy are based on where the best opportunities lie. Earnings growth is important for banks because earnings help build capital, and all three banks reported q-o-q and y-o-y earnings growth in the first quarter.
DBS Group Holdings announced net profit of $1.65 billion for 1QFY2019, up 9% q-o-q and 25% y-o-y, boosted by wealth management, trading income and a $101 million write-back.
Oversea-Chinese Banking Corp (OCBC) announced net profit of $1.23 billion, up 11% q-o-q and 33% y-o-y. Wealth management income increased 27% y-o-y, contributing to 34% of total income while Bank of Singapore’s assets under management rose to US$108 billion ($148 billion) on the back of net new money.
United Overseas Bank’s net profit rose 15% q-o-q and 8% y-o-y to $1.05 billion. Unlike OCBC, UOB reported lower net fee income, owing to lower wealth management and fund management fees, as market sentiment was more subdued. Other non-interest income rose 40% on improved customer-related income and higher trading income. The bank reported a $32 million write-back in allowances.
Loan growth and firmer net interest margins are the pillars of growth, along with fee income and other non-interest income. DBS’s net interest income fell 1% q-o-q and rose 9% y-o-y to $2.31 billion. OCBC’s net interest income rose 1% q-o-q and 8% y-o-y to $1.53 billion, and UOB’s net interest income fell 1% q-o-q but rose 8% y-o-y to $1.59 billion.
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DBS has the lowest allowances
DBS was able to write back $101 million in 1QFY2019 as a result of adopting SFRS(I) 9 (Singapore Financial Reporting Standard [International]). Under the new standard adopted last year, expected credit loss (ECL) for Stages 1 and 2 refer to general provisions under the old system.
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Previously, the local banks had GPs of 1% of their assets. A new methodology for GPs was implemented in 2018 as part of the adoption of SFRS(I) 9. GP is now based on an ECL balance derived from risk models, loss experience and macroeconomic forecasts. At the same time, Singapore banks are still required to maintain a GP of at least 1%. When ECL falls below 1%, the shortfall is appropriated from earnings retained in an account called the Regulatory Loss Allowance Reserves (RLAR).
“The ECL for Stages 1 and 2 — or general allowances — fell $101 million during the quarter to $2.47 billion. There was a decline in lower-quality exposures in our portfolio during the quarter, which reduced the amount of ECL required. At the same time, there was an improvement in external credit conditions based on the models we use for computing expected credit losses,” chief financial officer (CFO) Chng Sok Hui explained during a DBS 1QFY2019 results briefing on April 29. “RLAR, which are required by [the Monetary Authority of Singapore] if the ECL for Stages 1 and 2 falls short of the 1% requirement, increased by $103 million, to $479 million. The amount was transferred from retained earnings.”
DBS’s specific allowances for loans (or ECL Stage 3) declined to 15 basis points, or $130 million, and DBS also took an allowance of $43 million mainly for contingent items, giving a total ECL Stage 3 allowance of $173 million (see Table 1).
OCBC takes lead in writing down OSVs
At a recent results briefing, Samuel Tsien, CEO of OCBC, explains that the bank has taken additional provisions against offshore service vessels (OSV) it financed for its oil and gas portfolio, with some vessels now being valued as scrap.
“Against the strong results, we have decided to take additional provision for the OSV portfolio, which has been under distress for quite some time. With the oil price rising, we would have expected employment of OSVs to have increased. However, we found that employment of OSVs and charter rates have not increased,” Tsien says. Idle vessels have been written down to scrap value, the lowest value that the bank can get if the vessels need to be sold.
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The valuation of vessels under charter have also been reduced to a refreshed collateral value, depending on the lower cash flows these vessels are fetching.
“If this [oil price] recovery is not coming through, then our portfolio quality will be protected against the latest market environment,” Tsien says.
OCBC took a special allowance (the equivalent of ECL Stage 3) of $232 million for its impaired loans and assets. Its allowances for non-impaired loans and other assets stood at $17 million, taking total allowances to $249 million, up 22% q-o-q (see Table 1).
For UOB, total allowances rose 17% y-o-y to $93 million as ECLs for non-impaired assets rose with loan growth in the first quarter. UOB wrote back $32 million for its ECL Stages 1 and 2 loans, as evidenced by allowances for only non-impaired loans being $38 million, whereas total allowances for non-impaired loans and assets were $6 million.
GBA, Asean growth drivers for OCBC, UOB
OCBC has, as part of its business strategy, focused on China’s Greater Bay Area. Its strategy is to provide linkages for trade, capital and wealth flows between GBA and Southeast Asia. The bank’s strategy includes growing its Pearl River Delta-based corporate customers and wealth base through collaboration with Chinese banks such as Bank of Ningbo Co and Bank of Shanghai Co to serve cross-border financing for privately owned enterprises looking to expand into Hong Kong, Taipei and Southeast Asia.
In a column for Bloomberg, Ronald W Chan, founder and chief investment officer of Chartwell Capital in Hong Kong, says GBA is already one of the fastest-growing regions in China. Last year, it had a combined GDP of about US$1.5 trillion. “At current projected growth rates, it will soon surpass the New York metro area in economic size. By geography, it’s three times the size of the San Francisco Bay Area,” he says. The Chinese government is enacting measures to support GBA’s growth. The Ministry of Finance recently announced new tax incentives and subsidies to entice foreign professionals to work in the tech sector.
UOB’s focus is on Asean, where it has built up a network of branches, offices and Foreign Direct Investment Advisory units. As at April 3, UOB had nine FDI Advisory centres in China, Hong Kong, India, Indonesia, Malaysia, Myanmar, Singapore, Thailand and Vietnam. “We see increased opportunities for businesses to move their supply chains to Asean, especially with rising global trade tensions,” UOB CEO Wee Ee Cheong states in the bank’s FY2019 annual report. According to UOB, it has provided a one-stop advisory and financial solutions to more than 2,100 clients and facilitated capital flows of $137 billion into the region.
Interestingly, among the three banks, UOB reported the strongest loan growth, up 12% y-o-y and 3% q-o-q. Its Singapore loans rose 8% y-o-y to $139 billion in the first quarter, while regional countries contributed loan growth of 14% in the same period. Among the local banks, UOB also reported the highest growth in risk-weighted assets (RWA) q-o-q, commensurate with its loan growth (see Table 2).
DBS and OCBC had limited loan growth during their first quarters, but their RWA grew more than 2% q-o-q (see Table 2) suggesting that the loans they took on had higher risk weights. DBS and OCBC also reported higher common equity Tier-1 capital, resulting in reported CET-1 ratios that were higher than that of UOB.
DBS’s CET-1 is likely to fall, however, when it next reports earnings. “After the payment of the 2018 final dividend, the CET-1 ratio will be closer to our target range of 12.5% to 13.5%,” says CFO Chng.
Dividends maintained, frequency increased
Despite the uncertainties, DBS will maintain its dividend of $1.20 a share, and increase payout frequency to four times a year. It will pay a dividend of 30 cents on May 30. For investors looking to buy more DBS shares, Deutsche Bank reckons that the bank’s current valuation could be somewhat rich.
“NIM [net interest income], which has been a strong catalyst of the stock, has been relatively flattish (up one basis point q-o-q), as its Hong Kong operations margin edged down 1bp. Aside from guiding for potentially better than previously guided credit cost for the year, other key metrics failed to surprise on the upside,” Deutsche Bank says in a recent report. “With a lower rate hike outlook looming, we may see further headwinds if upward mortgage repricing reverses itself from new competition and a lower rates outlook in the Hong Kong market. Though fundamentals are expected to stay solid, the bank’s current valuation is more dependent on sustainable market performance and a better-than-peer NIM — which could show signs of weakness in the second half of 2019 and 2020.”
Among the local banks, OCBC reported better NIM and non-interest income growth, and a stronger pickup in NIMs.
Although OCBC’s earnings beat consensus by 9% compared with DBS’s 12%, OCBC’s performance was underpinned by improvement in its core metrics such as income growth, NIMs and cost-to-income ratios.
OCBC is not moving to a quarterly dividend payout. Tsien says in the bank’s annual report, however, that OCBC seeks to maintain a dividend payout that is sustainable and predictable over the long term. “Our dividend policy is also premised on ensuring that we maintain a strong capital position to support business expansion while having the capacity to capture market opportunities when they arise,” he says. For FY2018, OCBC’s dividend payout ratio of 40% translated into $1.82 billion, or 43 cents a share, and — going by its robust results in 1QFY2019 — despite higher allowances, this is likely to be maintained.
UOB paid $2.05 billion in dividends last year, or $1.20 a share, for a payout ratio of 50%. This included a special dividend of 20 cents. Ordinary dividend was $1 a share, which is likely to be maintained.
Banks will always want both higher return on equity and to maintain strong capital levels, says Lee Wai Fai, CFO at UOB. “We have guided [that we want] to maintain [our] CET-1 at 13.5% because it’s important to keep our AA credit rating for [lower] funding [costs],” he says. Shareholders always like more dividends. To maintain its 50% payout ratio, UOB needs a return on RWA of 1.8%, which implies y-o-y RWA growth of 7% to 8%, Lee explains.
As an indication of dividends this year, UOB’s RWA rose 13.48% y-o-y (see Table 2), and the bank has the leeway to slow down RWA growth during the rest of this year.
“The Singapore banks still stand out, supported by a steady NIM guidance, benign asset quality trend, solid capital with respectable dividend yields and undemanding valuation,” Deutsche Bank says. At this stage, its picks are OCBC and UOB.
