EUR 850.00 For Business Accounts Only

Morningstar | Narrow-Moat BOCHK Reports Mixed 3Q Update; Valuation Looks Attractive

Bank of China Hong Kong provided a mixed third-quarter update, and our fair value estimate is unchanged at HKD 39.20. The bank is attractively priced after a sharp decline in its share price after results were released. Our fair value represents a price/book of 1.7 times, supported by forecast return on equity of 14% over the next five years. A discount to fair value of 25% is a large enough margin of safety, in our view. From a quality perspective, the narrow-moat-rated bank benefits from cost advantage, supported by a 14% deposit market share in Hong Kong. The bank is efficiently run, with a prudent credit track record through multiple cycles. This is supported by a strong capital position, and any deterioration in economic conditions should have a limited impact on the bank’s profitability, in our view. The clear negative was larger-than-expected credit costs and weaker net fee income. Expected credit loss, or ECL, in the third quarter of HKD 564 million was material compared with the loss HKD 715 million in the first half, driven by a change in model assumptions on economic conditions. Credit quality was stable, with impaired assets declining as a percentage of total loans. While peer HSBC also reported no deterioration of asset quality due to the trade tension, we remain cautious over the medium term and adjust our ECL assumption higher. As noted in the first-half result, net fee and commission income is expected to be lower in the second, reflected by a quarter-on-quarter decline of 15%. Trading volume on the Hong Kong Exchange was weaker at the time of the first-half result and this sustained over the past three months as turnover remained subdued. Concerns over trade wars have weakened investor confidence and this would contribute to the decline in fee revenue for brokerage and wealth management products, in our view.

Positively, net interest margin benefited from a sustained increase in interbank rates in Hong Kong. Net interest margin improved to 1.69% in the third quarter from 1.56% in the first half of fiscal 2018 and underpinned a 1.5% increase in net interest income.