The three local banks have more or less resumed their pre-Covid dividends. Their growth and digitalisation strategies bear some differences but all three announced stable or improved cost-toincome ratios and have reaped revenue and cost efficiencies from digitalisation efforts.
Net profit levels have improved from a year ago although quarterly trends at the pre-provisioning profit levels were a bit volatile.
Earnings are important for banks because they determine dividends paid to investors. Earnings also form part of retained earnings and revenue reserves for banks, which boost their net asset values, and, hence, valuations. Earnings also impact ROE and are a gauge as to whether the banks’ ROEs meet their cost of capital.
At the net level, all three banks reported better numbers in 1HFY2021 ended June compared with the same period last year. This is because general provisioning, now officially known as ECL 1 and 2, where ECL stands for expected credit loss, has fallen sharply. ECL 1 and 2 depend on macroeconomic variable (MEV) models, which have improved since last year.
As an example, Singapore’s GDP growth in 2QFY2021 expanded by 14.7% y-o-y, faster than the 1.5% y-o-y rate recorded in 1QFY2021. As vaccination rates surpass the 70% level in Singapore, the likelihood of borders reopening is rising. Regionally, the cases of the delta variant in Malaysia may also have peaked.
The pandemic and how economies navigate the crisis are likely to impact MEV models. In 1HFY2021, MEV models showed improvement from 2020.
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Net profit in 1HFY2021 and 2QFY2021 for all three banks grew by double digits y-o-y. However, operating profit before allowances in 2QFY2021 fell q-o-q for DBS Group Holdings and Oversea-Chinese Banking Corp (OCBC) (see table).
For DBS, operating profit in 2QFY2021 fell by 9% y-o-y, and 10% q-o-q. This was caused by a decline in net interest income in 2QFY2021 y-o-y and q-o-q. DBS’s net interest income fell in 1HFY2021 y-o-y and h-o-h as well. A stellar 6% to 7% in loan growth during 1HFY2021 was offset by a 27 basis points (bps) y-o-y decline in net interest margins for DBS.
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Interestingly, United Overseas Bank (UOB), which reported 6% y-o-y loan growth in 1HFY2021, saw its net interest margins remain stable at 1.56%, down 1bp q-o-q and 8bps y-o-y. This may have to do with the loan mix.
UOB’s risk-weighted assets (RWA) rose 3.9% y-o-y compared to a 2.4% rise in DBS’s RWA. UOB says the higher RWA was driven primarily by corporate loan growth. DBS’s loan growth was likely from loans which attracted lower risk-weights and lower margins compared to UOB’s.
For instance, 1HFY2020 saw $6 billion y-o-y trade loan growth while Singapore housing loans grew by $2 billion. Its non-trade loans grew by $7 billion. Trade loans and mortgages generally attract lower risk weights and lower margins.
At the Aug 5 briefing, Piyush Gupta, group CEO of DBS, said, “We’re raising full-year loan growth guidance to the high single-digits. We grew 6% in the first half and will see 3% in the second half. The first half had $6 billion of trade loan growth due partly to higher commodity prices. It is unlikely trade loans will grow as much in the second half. Singapore housing loans grew $2 billion in the first half and could slow down to $1 billion in the second half even though bookings were $4 billion each. We expect non-trade corporate loans to continue growing at the same rate of $7 billion in the second half.”
How the banks view general provisions and write-backs
Like global banks, DBS’s net profit in 1HFY2021 and 2QFY2021 were boosted by write-backs. These were due to repayments of weaker exposures and credit upgrades which resulted in a first-half general allowance write-back of $275 million.
Chng Sok Hui, group CFO at DBS, says that general allowance overlays built up in prior periods were maintained, while specific allowances declined 46% from a year ago to $364 million or 18 bps of loans, in line with pre-pandemic levels.
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In addition to high single-digit loan growth in FY2021, Gupta is guiding for fee income to grow in the mid-teens this year. “The credit cost outlook offers another upside. The good news is that we have been getting repayments that largely offset the new NPA (non-performing asset) formation. The repayments have also contributed to lower allowances. We had been guiding for total allowances to be less than $1 billion. Now, we’re expecting the amount to be less than $0.5 billion. It was less than $100 million in the first half and we are hedging our bets a little for the second half because of uncertainty from the impact of the delta variant and the expiry of loan moratoriums,” he said during DBS’s 1HFY2021 results briefing.
Both OCBC and UOB refrained from writing back last year’s hefty provisions. Lee Wai Fai, group CFO at UOB, maintains that conditions are not ripe for writing back its general provisions (GP).
Lee explains, “I always say I write back GP for a specific purpose; one was Covid [improvement]; two would be [an improvement in] general economic conditions and three is customer-specific. I don’t see the first two conditions improving to the extent I can write back GP. The Covid crisis is still challenging and happening in the region. We see an economic recovery but a large part of that is at a lower pace and likely to be towards next year. If ever I write back GP for cases, it would be for restructured (relief) loans, which is not happening, or because NPLs significantly go up, which in technical terms means specific provisions would go up.”
Similarly, OCBC has not changed its position on its portfolio. “In terms of credit costs, our management overlay has not reduced and there is an increase in management overlay. We mentioned the situation in both Malaysia and Indonesia and we have preemptively set aside more ECL 1 and 2. Because of the management overlay, we have the ability to release regulatory loss allowance reserve (RLAR) which is added to our capital,” OCBC’s group CFO Darren Tan elaborates.
RHB Research says provision buffers for the Singapore banks are sufficient. “In Singapore, asset quality was better than expected with new NPL formation declining to normalised levels and loans under relief stable. Some stress from Malaysia and Indonesia is expected due to the extended lockdown measures to combat the pandemic. The management overlays taken in 2020 have yet to be written back and are judged to be more than sufficient to absorb the potential rise in new delinquencies,” RHB says in an Aug 11 update.
Could OCBC be more generous with dividends?
OCBC’s dividend per share of 25 cents was lower than the dividend of 28 cents in 2HFY2019 and represented a payout ratio of just 42%. Yet, OCBC’s common equity tier 1 (CET1) ratio was the highest among the local banks at 16.1%. Should OCBC then be more generous with dividends?
CFO Tan says the OCBC board looks at the absolute amount first. “When we look at our dividend policy, the quantum is the first determinant on how we calibrate our dividend, and reference to the payout ratio of between 40% and 50% is secondary. So we go back to the level we used to pay pre-pandemic.”
What about OCBC’s excess capital? “During the previous quarter (1QFY2021), we explained that the CET1 [rise] was due to the increase in the numerator and the [decline] in the denominator was due to the refinement in how we look at RWA. The recent increase came less so from RWA refinement and more so in terms of the numerator. This was due to [higher] retained earnings and the application of scrip dividend in 2020 because the participation rate from shareholders is high at 52.9% and some of that was recaptured in the numerator,” Tan explains.
UOB’s dividends were the most generous at 60 cents per share, up from pre-Covid levels of 55 cents in 1HFY2019 and 2HFY2019. The payout ratio was 50% of 1HFY2021’s net profit of $2 billion compared to 1HFY2019’s $2.2 billion. Notably, UOB did not write back general provisions and its earnings were boosted by net interest income, higher fee income and lower provisions.
DBS’s payout ratio of its 2QFY2021 net profit was 49.7% and dividend per share was back to pre-pandemic levels of 33 cents per quarter. Although the payout ratio was a tad lower than UOB’s, DBS’s net profit included a modest write-back in 2QFY2021.
Forward guidance
Among the three banks, Gupta sounded the most upbeat about prospects. “We acquired stakes in banks in India and China, and launched a securities joint venture in China. We also launched new digital initiatives. I think we will have an incremental $350 million–$400 million of income from these activities next year, which should be $200 million–$250 million more than this year. It should help cover some of the interest income shortfall we have seen over the past 12 to 18 months. If we continue to get meaningful traction, there could be upside in the numbers,” he said. DBS acquired a 13% stake in Shenzhen Rural Commercial Bank for $1 billion in April this year and completed the acquisition of Lakshmi Vilas Bank in December 2020.
OCBC has premised its growth engine on the flow business. “We continue to grow our wealth management and insurance businesses. We [continue] to see synergy between Greater China and Asean, and we are strengthening the China business offices in Asean to support inbound business for the China+1 strategy,” says Helen Wong, group CEO of OCBC. “We confirm a positive outlook for the rest of the year and we are optimistic on growth prospects as the recovery picks up pace.”
While there is some overlap in geographies between UOB and OCBC, OCBC has a larger presence in Hong Kong and the Greater Bay Area while UOB is a lot more focused on Asean.
“We continue to expect profit to rebound driven by high single-digit loan growth and double-digit non interest income growth driven by continued traction in loan and wealth management fees, and a recovery in credit card fees,” Wee Ee Cheong, group CEO of UOB, said during its results briefing on Aug 4. There is no change in cost-to-income ratio guidance which is likely to remain stable but credit costs are expected to be lower than the 24bps recorded in 1HFY2021, he indicated.
“We are optimistic that the situation will gradually pick up in SE Asia and we remain confident in Asean’s upside potential,” Wee adds.
TMRW, UOB’s digital-only bank has garnered more than 355,000 customers in Thailand and Indonesia, and deposits have grown four times in the past year.
“Independent research indicates we are ahead of a number of our local peers in Indonesia and Thailand, and the cost of acquisition is very low. What we are trying to do is to leverage our shared regional infrastructure to enhance speed to market [of products]. The priority is to grow scale through ecosystem partnership and new products, including lending and deposits,” Wee says. In the meantime, UOB has increased its capital in UOB Vietnam “to run a bigger scale [bank]”, he adds.
“Singapore banks followed up the exceptional 1QFY2021 with a relatively stable 2QFY2021, resulting in a strong 55% y-o-y rebound in 1HFY2021 sector net profit. ROE is projected to recover to 10.5% from 7.9% in 2020. With the improving outlook expected to extend into 2022 and interest rates likely to rise from late2022 or early-2023, we believe bank stocks would continue to see positive rerating. Our pecking order: UOB, OCBC and DBS,” RHB Research concludes.
