As net interest margins (NIM) are expected to moderate in the coming quarters, attention has shifted towards return on equity (ROE) instead. Analysts are taking a shine towards Oversea-Chinese Banking Corporation (OCBC) O39 following its results briefing for 1HFY2023 ended June on Aug 4, where CEO Helen Wong outlined further details on the bank’s group-wide strategy to achieve $3 billion in incremental revenue from 2023 to 2025.
OCBC unveiled on July 3 its branding and strategic refresh, but Wong had stayed mum on how the bank would see those plans to fruition, citing sensitivity over then-unreleased 1HFY2023 financial figures.
At a media and analyst briefing on Aug 4, Wong says 70% of the $3 billion target should be driven by organic growth pillars like wealth and trade, while new economy and sustainability will make up the rest.
OCBC guides for the project revenue inflow in FY2023, FY2024 and FY2025 to be split at $500 million, $1 billion and $1.5 billion.
Notwithstanding these inflows, OCBC guides for a base case of some 12%-13% ROE by FY2025, tapering off from its expected 14% in FY2023. OCBC’s base case assumes that its current growth trajectory is maintained, interest rates will start declining by some 1.5% from 2024, and that mark-to-market losses in the fair value through other comprehensive income (FVOCI) will reverse as interest rates taper off.
The incremental $3 billion revenue is guided to add about 1% ROE upside to OCBC’s base case. The bank’s leaders say they will provide updates to this initiative closer to 4QFY2023.
See also: OCBC reports earnings of $1.71 bil for 2QFY2023 and record 1HFY2023 net profit of $3.59 bil
The ROE clarity from Wong’s comments is welcome, note CGS-CIMB Research analysts Andrea Choong and Lim Siew Khee. Following the results briefing, they maintain “add” on OCBC in an Aug 5 note, with a higher target price of $14 from $13.50 previously.
OCBC reported net profit of $3.59 billion for the 1HFY2023, 38% higher y-o-y. During 2QFY2023, group net profit rose 34% y-o-y to $1.71 billion.
The bank’s half-year earnings stood at a record high thanks to record income and drove its ROE to 14.3%, 3.9 percentage points higher y-o-y.
OCBC declared an interim dividend of 40 cents per share, 43% higher than the interim dividend of 28 cents the year before.
OCBC’s 2QFY2023 earnings “look decent” to CGS-CIMB’s Choong and Lim. “Although there was a boost from insurance income, likely at a new normal level following the adoption of IFRS17 accounting standard, and trading income, these were negated by more management overlays in 2QFY2023.”
Choong and Lim estimate OCBC’s management overlays at some $1 billion in total.
OCBC reported an exit NIM of 2.26% at end-June, on par with its 2QFY2023 quarterly NIM.
OCBC’s leaders expect that NIM holds at current levels over 2HFY2023 as yield support from the recent Fed rate hike should be offset by still-high funding costs.
That said, with 1HFY2023 NIM at 2.27%, Choong and Lim think management’s NIM guidance of it being above 2.2% in FY2023F “is a tad conservative”. “We raise our FY2023-FY2025 NIM to 2.14%-2.27%, from 1.99%-2.17%, to factor in the improved margin outlook.”
Earnings ‘above estimates’
See also: Citi 'warming up to OCBC' over DBS ahead of 1HFY2023 results, expects 40 cents DPS
PhillipCapital Research analyst Glenn Thum is even more optimistic on OCBC, after 2QFY2023 earnings of $1.71 billion came in “slightly above” his estimates.
As a result, he maintains “buy” on OCBC in an Aug 8 note with an unchanged target price of $14.96, the highest among houses here. “We raise FY2023 earnings by 4% as we increase net interest income (NII) estimates for FY2023 due to higher NIMs and lower expenses, offset by lower fee income estimates.”
Thum also raises his FY2023 dividend per share (DPS) forecast to 85 cents from 80 cents.
To Thum, OCBC’s share price catalysts include continued interest income growth and fee income recovery as economic conditions improve. “OCBC is our preferred pick among the three banks due to attractive valuations and dividend yield of 6.5%, buffered by a well-capitalised 15.4% common equity tier-1, and fee income recovery from China’s reopening.”
Charting a path towards higher ROEs
Meanwhile, RHB Bank Singapore analysts remain “neutral” on OCBC with a higher target price of $13.70 from $13.20 previously. This target price includes a 2% ESG premium, based on RHB’s in-house ESG methodology.
In an Aug 7 note, the RHB analysts note that OCBC is “charting a path towards sustaining higher ROEs”, but China’s macroeconomic softness and NIM headwinds in the near term will likely cap OCBC’s share price performance.
During the quarter, OCBC’s non-performing assets fell 2% q-o-q on recoveries and upgrades in Singapore, Malaysia and Indonesia.
This was partly offset by the 40% q-o-q rise in non-performing loans (NPLs) from the “rest of the world” segment following the downgrade of a corporate account in the commercial real estate (CRE) space in the US.
That said, OCBC thinks this was an isolated case, and does not see any signs of stress in its loan portfolio.
Loans to the CRE office sector made up 14% of OCBC’s group loans, with exposure to developed markets and the US at 4.5% and 0.8% of group loans respectively.
OCBC’s average loan-to-value (LTV) is 50%-60%. As such, while the NPL ratio was stable q-o-q at 1.1%, its non-performing asset coverage ratio rose to 131% from 121% in 1QFY2023.
The analysts from DBS Group Research, too, have a target price of $13.70 on OCBC, up from $13 previously. In an Aug 7 note, DBS’s Lim Rui Wen and Tabitha Foo maintain “hold” on OCBC.
“We believe this is a fair valuation, as we see limited catalysts ahead for OCBC’s share price with rising asset quality risks. We believe the market has largely priced in the positives from upside to NIMs in 2HFY2023 and the downside to OCBC’s share price will be supported by its strong provisions buffer of 131% and potential excess capital of more than $2 billion during FY2023.”.
Maintaining 50% payout
Citi Research's forecast of 40 cents interim dividend from July 19 proved accurate. Further upside to OCBC’s payout ratio going forward depends on the bank’s capital position, notes Citi Research analyst Tan Yong Hong.
In FY2022 ended December, OCBC had a payout ratio of 53%. After OCBC pays out the 40 cents interim dividend on Aug 15, its CET-1 ratio of 14.6% will remain above its 14.0% target, adds Tan.
Compared to the other houses, however, Tan maintains “neutral” on OCBC in an Aug 4 note, with a target price of $12.70 representing a 2.6% downside to its closing price on Aug 3, before the release of results.
During the quarter, OCBC’s current accounts and savings accounts (CASA) ratio fell as strong assets under management (AUM) inflows were mostly sitting in fixed deposits. For 1H2023, OCBC posted net new money of $16 billion, higher than its peers, notes Tan. “Going into 2HFY2023, easing fixed-deposit costs should support stable NIM.”
Key risk factors that could cause OCBC shares to trade below or above Citi’s target price include the extent of impact of the US, Hong Kong and China on Singapore’s GDP growth, rates and growth in loans and fees; the Monetary Authority of Singapore’s (MAS) exchange rate policy; the level of short-term interest rates; the shape of the yield curve and funding conditions, which impact NIM; changes to asset quality outlook and in turn the credit cost cycle; capital flows and market liquidity risk appetite; OCBC’s dividend policy and capital management; and potential M&A and regional growth.
As at 9.02am, shares in OCBC are trading 11 cents higher, or 0.85% up, at $13.13.
