Investment Highlights

• We maintain NEUTRAL on the sector with a projected core earnings growth of 3.9% YoY in 2024 compared to 4.6% YoY in 2023. Our NEUTRAL stance is premised on macro headwinds, ongoing geopolitical tensions, pressure on funding cost and uncertainties in yield curve which is likely to impact treasury and investment income. We anticipate a modest total income growth of 3.2% YoY supported by higher net interest (NII) and Islamic banking income. We project a ROE 10.4% in 2024 on par to 2023.

• Stronger NII in 2024 after a significant NIM compression in 2023. NII growth will be underpinned by a modest growth in loan volume and lower NIM compression of 2bps in 2024 compared to 14bps in 2023.

• Non-interest income (NOII) to be lower in 2024 on the back of a decline in investment and treasury income. 1H23 saw banks recording stronger investment and trading income which cushioned the decline in NII from steep NIM compressions. In 2H23, banks are in the position to benefit from marked-to-market gains on bonds/securities portfolio following the lower 10-year MGS yield over the recent month after expectations for US Federal Reserve to cut interest rates starting in 1H24 have been factored in by market. We foresee potentially lower opportunities for a repeat of such investment and trading gains in 2024.

• We continue to expect the Malaysian banking industry to register a loan expansion of 4%–5% in 2024. This will be on the back of a projected GDP growth to 4.5% in 2024 compared to 4% in 2023.

• OPR to remain at 3.0% in 1H24 and the remainder of 2024. After a cumulative rate hike of 125bps normalising OPR to 3% in May 2023, we expect the benchmark interest rate to remain at 3.0% in 2024 with headline and core inflation continuing to trend downwards. Our economist expects inflation in 2024 to fall within the range of 2.5% to 3.5%, taking into account the effects of subsidy rationalisation and the impact of the services tax increase. Nevertheless, we see upside risk to this projection in the event the scope of subsidy rationalisation is extended to RON95 fuel. Our base case scenario considers a balance struck between domestic growth and inflation.

• Anticipate NIM to be flattish at best for banks in 2024 without further OPR hikes. The full positive impact of the 25bps OPR hike in May 2023 has already been fully reflected in banks’ NIM, capturing the entire quarter’s positive impact from the interest rate increase in 3Q23. Hence, with cost of funds likely to remain elevated in the near term until Federal Reserve’s pivot on interest rates in 2024, we do not expect any significant improvement to banks’ NIMs in 1H24.

• Deposit competition persists with ongoing campaigns by banks in 4Q23, offering competitive FD rates which will tie maturities of time deposits to 2024. Arising from this, it is likely to see a QoQ contraction in banks’ NIMs again in 4Q23. Funding cost pressure continues to be seen as one of key challenges for the banking sector in 1H24.

• We estimate a cost-to-income (CI) ratio of 44.9% on average for banks in 2024.

• We continue to see limited room for further decline in banks’ net credit cost given that the macroeconomic variability continues to warrant banks to remain prudent on provisions in 1H24. Banks’ credit cost of 13bps annualised in 1H23 is already seen at the pre-pandemic levels (2015-2019 average of 14bps). Moving ahead, limited sizeable releases of management overlays are expected. Banks will continue to hold substantial provision buffers to mitigate credit risk until improvements are seen in the macroeconomic outlook. In 2024, we project a credit cost of 24bps vs. 25bps in 2023.

• Expect upticks in banks’ GIL ratios moving forward, particularly consumer and SME loans post-expiry of repayment assistance programmes with the slowdown of the global economy. Nevertheless, we are not overly concerned with the potential increase in GIL ratio of banks from the tight monetary policies maintained by developed countries and macroeconomic headwinds in the near term. This is due to expectation that banks will continue to maintain their pre-emptive provision buffers in 2024.
  
  In Oct 2023, GIL ratio for the sector was 1.7% and we expect the ratio to trend upwards in 2024 to between 1.8% to 2.0%.

• Key risks for the sector: i) Weaker than expected global growth and unexpected further increase in funding cost; ii) inflation levels in developed countries remaining sticky, coupled with a slowdown of global economic growth which could lead to stagflation. Stagflation will result in a higher unemployment rate and this, coupled with pressures from inflation, could impact asset quality of banks, resulting in a likely need for higher provisions for potential credit losses, and iii) higher than expected interest rate risk with the higher rates held for much longer resulting in a significant decline in valuations on bonds/investment securities and a much lower NOII.

• Key considerations for upgrading the sector to Overweight: i) stronger than expected improvements in funding cost, resulting in improvement of banks’ NIMs, ii) significant pace of deceleration in developed countries inflation rates, and iii) lower macro headwinds that could potentially lead to the release of provision buffers kept prudently by banks.

• Banks making strides on sustainability efforts. On ESG, we see that banks have been committing to reduce carbon emissions as well as mobilising higher amount of sustainable finance. These include financing of green property projects, EVs and sustainability-linked financing for SMEs. On corporate deals, banks have also been actively involved as the lead arrangers and managers for the issuance of sustainability sukuks and syndicated green loans.

• Sector valuation is inexpensive at FY24F P/BV of 0.9x. However, there remains limited earnings catalyst in the near term.

• We have BUYs on on CIMB Group (FV: RM6.90/share), Hong Leong Bank (FV: RM22.60/share) and RHB Bank (FV: RM6.30/share). We continue to like CIMB due to its attractive valuation trading at 0.9x FY24F P/BV. Asset quality has improved with lower provisions while diversification of its revenue and portfolio reshaping initiatives have contributed to a stronger core ROE. Optimisation of credit cost, capital and lower losses from digital assets invested are envisaged to uplift earnings ahead.
  
  Also, we like Hong Leong Bank for its resilient asset quality and robust contribution from associates. Besides, FY24F net credit cost is low at 10bps with upside potential to NII and NIM from a likely further increase in LD ratio due to the emphasis to optimise its balance sheet. Valuation wise, the stock is at an attractive FY24F P/BV of 1x, below its 5-year historical average of 1.3x considering its superior ROE of 11.2%, higher than most peers.
  
  RHB Bank is another of our stock picks. We see weaknesses from the recent financial results already priced in. Valuation of the stock is now trading at an attractive FY24F P/BV of 0.7x with a dividend yield of 6.2%. Additionally, we like RHB due to its strong capital position among peers with a CET1 ratio of 16.2%.

Source: AmInvest Research - 3 Jan 2024