Investment Highlights

• We retain our OVERWEIGHT stance on the banking sector in 2020 underpinned by compelling valuations and dividend yields. We expect the sector's core earnings to grow by 5.5% in 2020 (2019: 0.9%), supported by a modest income growth of 4.6% with higher net interest income (NII) from loan expansion and a modest growth in non-interest income (NOII) of 3.4%.

• In 2020, we are projecting loans for the Malaysian banking industry to grow by 4.0% supported by a GDP expansion of 4.0– 4.3%. The mild expansionary budget for 2020 is expected to lend support to private consumption. Household and nonhousehold loan growth is likely to remain soft in 2020.

• We expect the low interest rate environment to persist moving into 2020. We do not discount the possibility of another OPR cut of 25bps in 1H2020, thus reducing the benchmark interest rate further from 3.00% to 2.75%. We believe that this will be data dependent as well as depending on global economic developments. NIMs for banks in 2020 are expected to be flat from 2019. On the positive front, we do not foresee deposit competition to be as intense as before that will pressure banks’ funding cost. This is in view of the fact loans are not likely to accelerate significantly from 2019. Also, most banks have already achieved the minimum NSFR requirement of 100.0%. Meanwhile, the recent SRR cut of 25bps implemented on 8 November has further improved the system’s liquidity consequently easing the KLIBOR modestly. These leave less reasons to compete aggressively for funding.

• We expect the sector’s opex to grow moderately by 2.4% for 2020 leading to a slight improvement in CI ratio to 46.8% (2019f: 47.5%).

• We do not expect the 10-year MGS yield to trend significantly lower going into 2020 from the present level. This is in contrast to the substantial decline in yields in 2019. The US Fed has signalled that it will not be tightening the monetary policy anytime soon, hence triggering a pause in further rate reduction. We still see room for gains to be realized from sale of bonds sitting on banks’ balance sheet. The outlook for investment banking business remains challenging. Nevertheless, the low interest rates will continue to be supportive of new issuances of bonds/sukuks.

• Asset quality for banks is expected to remain stable in 2020 with potentially a slight uptick to the GIL ratio at most. The protracted global trade tensions will continue to have a bearing, resulting in upticks in impaired loans. With the risk of global recession easing from the earlier months, we do not anticipate a blow-up in the asset quality of banks. Flexibility has been accorded to banks to exclude rescheduled and restructured (R&R) SME loans between July 1, 2019, and June 30, 2020 from being classified as impaired loans. As banks have been growing SME more than corporate loans owing to the former’s higher yields, this flexibility should keep a lid on banks’ asset quality ratios.

• We expect provisioning for loan losses for the sector to be modestly higher in 2019 vs. 2018 owing to the economic growth which will continue to be slow. In 2020, we are assuming a higher credit cost assumption of 28bps vs. 24bps in 2019.

• The key risks for the sector are: i) higher-than-expected provisions from deterioration in asset quality in the event that the global trade tensions worsen; ii) unexpected NIM compression from rise in funding cost and/or more interest rate cuts than expected; and iii) potential impact on banks’ fee income once digital banks come onboard.

• We expect the sector’s ROE to be 11.0% in 2020 vs. 11.1% in 2019.

• Our top picks are Hong Leong Bank (fair value: RM18.90/share), Maybank (fair value: RM9.80/share) and RHB Bank (fair value: RM6.50/share). Our BUY call on Hong Leong is premised on its strong asset quality, low provisions and faster recovery from OPR cuts than peers due to its shorter tenure of deposits. We continue to like Maybank as its earnings are well diversified, dividend yield of 6.8% is attractive and compelling valuation which is lower than its 5-year historical average PB/V of 1.4x. Also, we are seeing the group’s NIM improving from the repricing of deposits and release of expensive deposits in Indonesia. Potential recoveries and normalization of R&R loans could lower the provisions of Maybank. RHB Bank remains our top pick due to compelling valuations, trading at 0.9x to FY19 BV/share, the strong capital ratio compared to peers with a group and bank entity CET1 ratios of 16.5% and 14.4% respectively that potentially could see improved dividend going forward though management remains conservative on the payouts for now. RHB has sizeable FVTOCI reserves of RM1.4bil boosted by the revaluation of bonds owing to the lower yields. With the low interest rate environment sustaining, we see potential for disposal of bonds to realize these gains for these to be recognised under RHB’s P&L.

Source: AmInvest Research - 3 Jan 2020