FINANCIAL SERVICES | Staff Reporter, Singapore

Rough road ahead for big three banks after improved Q3

OCBC, DBS, and UOB’s earnings rose in Q3—but 2021 presents a tough test as fiscal, monetary relief gets withdrawn.

Whilst the major Singapore banks’ improved earnings in Q3 marks a positive sign for the country’s banking sector, the big challenges still await the trio of OCBC, DBS, and UOB as they face the full brunt of the pandemic in the coming year or when fiscal and monetary relief tapers off, according to analysts.

Fiscal and monetary relief from across markets is set to be withdrawn by the first half of 2021—marking the period when the adequacy of the three banks' core profitability, credit provisions, and capital buffers will be more rigorously tested, Fitch Solutions said in a report.

Already, OCBC and UOB saw their loans under relief be reduced as at end-September, following the expiry of a blanket moratorium on loan repayment in Malaysia. Such loans make up less than 7% of the three banks' total loan portfolios, down from nearly 10% in Q2.

The ratio may yet increase as borrowers are still eligible to apply for targeted relief in Q4, but Q2 has likely been the peak. All three banks acknowledged that loan impairments remain uncertain.

The trio also face persistent pressure on net interest margins (NIMs), with ample liquidity chasing quality assets and driving lending yields lower.

Fitch does not see any substantial improvement in the big three’s NIMs in 2021, even with a reduction in the banks' cost of funds in the second half of the year likely mitigating interest-income headwinds.

Likewise, UOB Kay Hian analyst Jonathan Koh noted that DBS and OCBC suffered NIM compression of 9bp and 6bp QoQ due to lagged impact from the global interest rate cuts last March. Currently, NIMs are bottoming at 1.53% for DBS, 1.54% for OCBC and 1.53% for UOB.

Calm before the storm
The recent quarter ending 30 September saw more positive outcomes for the banks. In particular, DBS and OCBC beat expectations by posting more than $1.29b and $1.02b in net profits, respectively. This is higher than UOB Kay Hian Koh’s projections of $1.11b and $922m.

Meanwhile, UOB’s credit provisions are slightly higher in Q3.

Credit provisions were also lower for DBS and OCBC compared to Q2, dropping 35% quarter-on-quarter (QoQ) and 55% QoQ, respectively.

Overall, the three banks’ aggregate annualised impairment charges is about 60bp of average loans in Q3, down from 86bp in 2Q20. Impaired loan coverage— including regulatory reserves—was similar across the banks and averaged 109%.

The decline in credit provisions was unsurprising as the Singapore banks made large general provisions in the first half of the year that made their credit costs amongst the highest among developed markets in APAC, said Fitch Ratings.

But Fitch warned that credit costs are likely to stay high until H1 2021 as relief tapers off.

“Credit costs at the bottom of the banks' guidance over 2020-2021 will provide them with additional earnings cushion but will not be large enough to change our scoring on the profitability rating factor,” Fitch said.

On the upside, operating income is consequently likely to improve only slightly in 2021 as trading and investment income normalise from 2020's high base and fee revenue recovers with the reopening of economies across APAC, according to Fitch.

Overall, earnings will continue to lag as the trio continues to resolve impaired loans from the pandemic-induced economic shock. Lower risk-adjusted earnings in 2019 will also keep the accumulation of retained earnings slow. This, in turn, will weigh on banks’ capital rations.

Higher credit migration than expected can also weigh on capitalization.

For 2021, UOB Kay Hian’s Koh forecasts DBS to register an earnings growth of 4.7% and OCBC to report an earnings growth of 34.2% on the back of lower credit costs.

Dividend-wise, DBS and OCBC is also expected to provide attractive 2021 yields of 4.8% and 5.6%, respectively. Dividend yield may also further improve to 5.9% for DBS and 6.3% for OCBC for 2022, assuming dividends are restored back to pre-COVID-19 levels, concluded UOB’s Koh.

Photo courtesy of Wikimedia Commons

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