Banks have had a better 3QFY2020 compared to their 2QFY2020. The biggest surprise was Oversea-Chinese Banking Corp’s (OCBC) net profit which rose 41% q-o-q to $1.03 billion. This came on the back of a tailwind from non-interest income, including that from Great Eastern Holdings, and lower general provisions compared to 2Q2020.
United Overseas Bank’s (UOB) net profit of $668 million was a slither above the Street’s estimates of $641 million. DBS Group Holdings net profit of $1.3 billion was marginally below a Bloomberg average estimate of $1.4 billion, but above the expectations of some analysts.
The “cliff scenario”, which is related to forbearance and moratorium loans, particularly in Malaysia and the region as well, has not materialised and both OCBC and UOB are exiting these moratoriums smoothly. The two banks gave similar guidance on loans under moratorium as both banks have sizeable operations in Malaysia and Singapore. In Singapore, loans under moratorium were granted under an opt-in option while in Malaysia, everyone could have their loans under moratorium till end-Sept with an opt-out option.
According to UOB, its loans under moratorium which qualify for government relief programmes have declined to 10% of total loans from 16% in 2Q2020. Of the 10%, 90% are secured with collaterals or government guarantees. In Malaysia, the automatic loan moratorium ended on Sept 30 but eligible borrowers can reach out to banks to seek an extension until the end of the year. UOB’s exposure to moratorium loans in Malaysia has dropped from 60% to 10% of total loans in the country.
Likewise, exposure to moratorium loans has declined from 30% to 20% for Thailand. In Thailand, eligible SMEs can seek an extension till June 30, 2021. In Singapore, applications for loan moratorium and liquidity assistance for vulnerable segments have been extended into 2021. UOB has maintained its estimated probability of default for moratorium loans at 10–15%, unchanged q-o-q.
OCBC has said that it saw the total amount of loans in Malaysia under the moratorium reduce from 10% of total loans as at end 2Q2020 to 9% and to just 5% as at end October. “After the exit from moratorium in Malaysia, the majority of our customers did not apply for relief and 90% of our customers have been able to revert to the original repayment schedule. Exit from the relief programme is better than what we originally expected,” says Samuel Tsien, group CEO at OCBC.
Tsien adds that OCBC’s NPL ratio guidance has not changed. “We believe gross NPL will be between 2.5% and 3.5%,” he says, adding that with write-offs and recoveries on a net basis, it would be lower.
However, since economies are recovering, Tsien reckons that at worst, NPLs could end up at the lower end of the expected range. Economic stability may also imply that the local banks have seen the worst of their credit costs. “On credit cost, from an economic perspective, we probably have seen the trough in 2Q2020, with 3Q2020 stabilising, and then gradually improving. This is consistent with international expectations of economic growth,” Tsien says.
As a caveat, credit costs can lag an economic recovery by three to five quarters. “We are not changing our guidance of credit costs of 1%–1.3% over two years but it looks likely that we will end up at lower end of range. We could have writebacks if the recovery is gradual,” he adds.
In an analysts’ briefing, UOB also guided that credit costs are near their highs currently. “Management has reaffirmed guidance for credit cost at 60bp for 2020. However, guidance for credit cost was revised downward from 60bp to 30-40bp for 2021. In aggregate, guidance for credit costs over a two-year period in 2020–21 was reduced from 120bp to 90–100bp. Thus, management expects UOB to benefit from lower credit costs in 2021,” says a UOB Kay Hian report.
The lower credit cost is supported by an improvement in loan loss coverage by 15 percentage points q-o-q to 111% while the valuation of collaterals has remained relatively stable, supported by quantitative easing and an abundance of liquidity.
DBS CEO Piyush Gupta says DBS has taken the larger part of provisions which it had guided at a range of between $3 billion and $5 billion over 2020 and 2021. “From an income headwind standpoint, the worst is not over because net interest margins will slide down, and income headwind next year will be higher on NIM.”
On the other hand, Gupta sees business momentum building. “Underlying business momentum has improved in China where there’s a very clear V-shaped rebound. Taiwan and Hong Kong are looking good and the rebound is good in general across the region,” he says. According to the International Monetary Fund (IMF), China’s growth is likely to accelerate to 8.2% in 2021, after dipping to 1.9% this year.
Well capitalised
All three banks reported healthy common equity tier-1 (CET-1) ratios, well above their guidance of 13%–13.5% (See table) and well above regulatory minimums.
This year, dividends have been constrained by global regulations which have asked banks to preserve capital to support the economy rather than their shareholders. If economies stabilise and recover next year as per IMF expectations, banks may be able to raise their dividends. “We have the capacity to pay more dividends than what we’re paying right now and we should see dividends going back up in 2Q2021,” Gupta says.
The biggest investment thesis for the banks is this: If credit costs have peaked, economies have stabilised and banks remain profitable, capital will continue to accrete. This will buoy CET-1 ratios and enable the banks to raise dividends next year. Capital accretion in the form of retained earnings and revenue reserves will also support NAVs. Both UOB and OCBC are trading below their NAVs, at 10-year lows (See charts) and at levels not seen since the Global Financial Crisis.
