DBS Group Holdings D05 has fallen some 13% since its peak of $36.19 on Feb 8. Since the start of the year, DBS’s share price is down a more benign 7.5%. In a 37-page report dated June 20, UBS says it is “turning more positive on the Singapore banks”, and has upgraded DBS from a neutral rating to a buy, and it is UBS’s most preferred buy. (UBS also has a buy on United Overseas Bank U11 ).
The report cites four reasons for the upgrade. First, higher for longer Federal Reserve rates could mark a bottom in earnings downgrade. In fact UBS believes there could be a potential revision of net interest margin (NIM) guidance during the banks’ 2Q2023 results during July-August, and this could be a share price catalyst.
Secondly, the negatives are likely to be priced in. This includes concerns around DBS’s exposure to US office property (via S-REITs) and Chinese commercial property such as retail and port logistics (also through S-REITs). Then there are concerns over credit quality in general. However, UBS points out that DBS has some $2 billion of management overlays to cushion any black swan event.
Third, the local banks are very liquid with strong wealth management net new money inflows. Bloomberg Intelligence has already reported that Singapore banking sector’ total deposits y-o-y growth of about 4% in April 2023 outpaced that of total loans y-o-y growth of minus 6%. “The liquidity surplus in the banking sector underscores how Singapore is a beneficiary as Asia’s wealthy shift their money to a perceived safe haven,” Bloomberg Intelligence says.
UBS points out that net new money inflows can drive earnings upside and medium-term re-rating as sentiment recovers.
The fourth reason focuses on valuation metrics. UBS points out that “the sector is trading at 8.2x forward P/E, 2SD (standard deviations) below the long-term average”, while cost of equity is above the long-term average, implying that the banks are undervalued.
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Among the banks, DBS is the most preferred because “peak ROE of 17% is being discounted by valuations”. During DBS’s investor day, DBS’s management hinted that 17% ROE is sustainable. “With normalized Fed funds rate of 2.5%-3% and assuming specific provisions at 1.5x the current level (6 bps), DBS could continue to deliver a sustainable ROE of 15%-17%, highest among peers” UBS says.
DBS has been the most generous in terms of dividends, and has committed to a 24 cents quarterly dividend. “There is also room for special dividends (of around 4% of market cap) given excess capital and operating CET1 range of 12.5-13.5%,” UBS adds.
DBS, being the largest stock by market cap, may also have seen the largest outflows of institutional money during market volatility. “We think the risk-reward looks squarely skewed to the upside, UBS says.
