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Morningstar | Long-Term Thesis on Singapore Banks Reaffirmed; Best-Idea OCBC Remains Top Pick

There is no change to our long-term thesis after our latest meeting with Singapore banks. We continue to see the three Singapore banks as benefactors of long-term growth regionally. Our forecasts and fair values remain unchanged, ahead of the first-quarter result because we have factored in an increase in net interest margins and mid-single-digit loan growth. With resilient resilient economic conditions, we expect non-performing loans and credit costs to be benign. A slight uptick is expected compared with the extraordinary low level in 2018. At a 14% discount to fair value, best-idea OCBC Bank remains our preferred pick out of the three Singapore banks. Meanwhile, the bank’s dividend payout ratio is lower than its peers, which is attributable to its hallmark conservative culture. We view the bank’s prudence on capital as positive. More volatile mark-to-market earnings from its insurance business,  reflected in the fourth-quarter result, is another perceived negative. However, the latter only has a short-term effect on earnings, with the bancassurance model a differentiator to peers, in our view. As a strong private banking franchise, the Bank of Singapore also underpins fee income growth. Asset under management, or AUM, of USD 102 billion means the private bank is in the top ten in the region. Fourth-quarter AUM declined because capital markets were weaker, but a recovery in early 2019 will result in stronger growth during the first quarter. Stronger capital markets will also result in higher brokerage fees.

The Singapore banks maintained a positive outlook despite the more cautious environment in the second half of fiscal 2018. Loan-growth guidance of low- to mid-single-digit was reaffirmed, with stronger demand from corporate and cross-border expansion offsetting weaker mortgages. Restrictive measures by the regulator has slowed transaction volumes in the Singapore residential real estate market. Year-to-date mortgages at the system level was 1.3% lower.

The net interest margin is expected to increase slightly because loan books are progressively repriced. Average interbank rates in Singapore were about 15 basis points higher than last quarter and 60 basis points compared with the same period in 2018. Similarly in Hong Kong, an outflow of capital also resulted in increases in interbank rates. Of the three Singapore banks, DBS Group will benefit the most because it has a larger exposure to Singapore and Hong Kong and stronger deposit market share.

The DBS Group's strength is in its digital banking capabilities. Further, the bank is making good progress with its digital strategy in India and Indonesia. A partnership with a local telecom firm in Indonesia kick-started its operations, despite starting off its strategy in India. The Indonesia operation is now at break-even level. Products will be expanded from deposit and loans to credit cards and financial products for small to medium enterprises. India’s slower start was also attributed to wallet-type transactional accounts. A refocused strategy on deposit accounts will result in the bank competing more aggressively over deposit rates. After receiving approval by the Reserve Bank of India to operate as a wholly owned subsidiary, the bank will be able to expand its existing branch network in 12 cities. We believe this adds geographical diversification over the long term. Both countries possess favourable demographics, with rising income and populations that are underbanked.