Increased market volatility may have dampened CIMB’s 2Q18 earnings. Taking a more conservative stance, we cut our 2018 net profit forecast by 7%. However, as management has retained its 10.5% ROE target for 2018 vs our more conservative 9.8% forecast, we think current valuations at -1SD below historical mean PE and P/B may have factored in such potential earnings risk. Maintain BUY with a lower target price of RM6.70 (1.23x 2018F P/B) vs RM7.40 (1.27x 2018F P/B) previously.

WHAT’S NEW

2Q18 could be a mixed bag. The increase in capital market volatility coupled with the challenging NIM environment in Indonesia could weigh on CIMB Group’s (CIMB) noninterest income (non-II) and NIM outlook in 2Q18 and for the year. However, management indicated that a pick-up in consumer loan growth in Malaysia (mainly mortgages), lower- than-expected net credit costs across its key markets and solid operating cost discipline could partially offset the weakness in non-II and NIM. As such, management has indicated that despite the challenging non-II outlook, its full-year ROE target of 10.5% remains within reach.

Non-II to be impacted by market volatility and post GE14 effect. The heightened capital market volatility and risk aversion post GE14 coupled with external developments has placed pressure on the group’s treasury, investment banking and brokerage income. Bond origination deal flows were also impacted post GE14 as most corporates are taking a wait-and-see approach to the new government’s policy changes. That said, management did indicate that origination flows from the bond market have improved in July but remain below pre-GE14 run rates. Given this development, we have taken a more conservative view and trim our non-II forecast further to incorporate a 1.5% contraction in 2018 and a mild 3% recovery in 2019 (previously 4.2% and 4.9% respectively). Our current non-II forecasts for 2Q-4Q18 imply a 5% decline vs the quarterly run rate in 2H17 when capital markets were relatively robust then.

Potential downside risk to earnings priced in. Post our earnings revision, we now forecast 2018 ROE of 9.8% which is below management’s 10.5% target and consensus’ 10.4% forecast. Given that management has retained its 10.5% ROE for 2018, we think current valuations at 1.05x 2018F P/B and 2019F P/B have largely priced in potential downside risk to earnings. This is also in our latest earnings forecasts which are 4% below consensus.

STOCK IMPACT

Loan growth target intact despite softness in growth from CIMB Niaga. Management has retained its group loan growth target of 6.0% in 2018 despite slowerthan-expected growth from CIMB Niaga. Strong consumer growth in Malaysia coupled with a recovery in loan growth in Thailand and Singapore should be sufficient to offset the expected softness in loan growth form CIMB Niaga. The weakness in loan growth from CIMB Niaga is partly attributed to the slower-than-expected roll-out of infrastructurerelated projects due to uncertainty from the impending presidential elections in Sep 18. In terms of loan growth by key market, we expect Malaysia to deliver a commendable 6-7% growth, 5-6% for Singapore and Thailand, and 2-3% for Indonesia

Expecting some one-off gains in 2018. The group is expected to report various one-off disposal and revaluation gains in 2018. These include: a) RM150m recognised in 1Q18 from a 50% stake disposal of CIMB Securities International to China Galaxy Securities; b) about RM313m from a 20%-stake sale in CIMB Principal to Principal Financial Group in 2Q18; and c) RM637m in marked-to-market revaluation gains on its existing 40% stake in CIMB principal.

Potential cost rationalisation exercise may be delayed to 4Q18 or 2019. Recall that the group was considering partially utilising the buffers from the various one-off gains for a number of restructuring exercises that could help enhance future productivity and reduce operating cost. However, management said greater clarity of such rationalisation measures may only be announced towards 4Q18 as it sets its new 5-year plan (2019-23). As such, any potential catalysts from the announcement of such measures may only take effect from 2H19. As part of its medium-term targets, management has alluded to: a) stronger growth in Indonesia, b) increase digitisation adoption; and c) further cost rationalisation to help drive group ROE closer towards the 13.0%.

Asset quality remains intact, guiding for credit cost at lower end of target. Management has retained its 55-60bp credit cost target for 2018 but improving asset quality outlook across all its key markets suggests that 2018 net credit cost may come in at the lower end of the targeted range or lower. This assumes the ongoing trade tensions between the US and China does not worsen and become a full blown trade war. If so, there is upside risk to the group’s expected loss provision requirement under FRS9. Post GE14, the slowdown in corporate loan growth has not translated into a deterioration in asset quality relating to the cancellation of construction projects. As such, we continue to project an improvement in the group’s net credit cost from 76bp in 2017 to 54bp in 2018 driven mainly by a continued improvement in CIMB Niaga’s net credit cost from 226bp in 2017 to 155bp in 2018.

EARNINGS REVISION/RISK

Taking a more conservative view, we reduce our 2018-19 net profit forecasts by 7% and 8% respectively as we factor in the impact of heightened capital market volatility and higher-than-expected NIM pressure at CIMB Niaga on the group’s non-II growth and NIM. Post our earnings adjustments, we now forecast NIM to fall by 8bp for 2018 and 1.5% in 2018 but grow 3% in 2019 (previously -6bp, +4.2% and +4.9% respectively).

VALUATION/RECOMMENDATION

Post earnings adjustment, we cut our target price to RM6.70 (1.23x 2018F P/B, 9.8% ROE). Despite the potential risk of a slower domestic corporate loan growth and weaker near-term investment banking income outlook, given the heightened capital market volatility, we think current valuations at below -1SD to its long-term mean PE and P/B have priced in the above-earnings risks. We continue to project a commendable net profit growth of 7.4% for 2018, driven by a downward normalisation in credit cost to 54bp vs 2017’s 76bp. The stock continues to trade at an attractive 11.0x 2018F PE (five-year historical mean of 13.3x) and 1.05x 2018F P/B (historical mean of 1.20x).

Source: UOB Kay Hian Research - 26 Jul 2018