Malaysia banking stocks have gone from cheap to extremely cheap in a matter of months as concerns grow over their loan books and asset quality. Valuation wise, all the banking stocks are trading well below their 5-year average with a -1.5 to -3.0 standard deviation below mean. On average, banking counters are trading at 0.84 times of the members’ book value, down from about 1.06 times at the end of 2019. It suggests that investors are pricing banks’ assets at almost 25% discount of their stated worth, the lowest since 2003 SARS outbreak due to rising risk of defaults at companies because of Covid-19.

Latest quarterly banking results showing continued trend in margin squeeze given low interest rate environment, possible weakness in asset quality after the six-month loan moratorium, selective balance sheet expansion and strong cost and liquidity discipline, going forward. Due to MFRS-9 requirements, banks will be required to recognise Day 1 modification loss adjustments (accounting treatment) in their financials in 2Q2020.

Financials are painting a dire warning sign for the market. The root of this problem stems from yields that are on the cusp of a decline. Interest rates on the 10-year MGS yield tell us just how weak the economy is about to be, trading at roughly 2.97% compared to 3.31% at the beginning of the year. Downward pressure remains with economists calling for another round of rate cuts by Bank Negara in July. And in the case of US rates, it is even
more amazing with Fed Fund Futures for March 2021 are now pricing in negative Fed Funds Rate, while the UST 2-year is making a new all-time low around 0.17% (1.57% on 2 Jan 2020).

The weak trend in bond yields and banks goes hand in hand since the banks make a good portion of their revenue from loans and interest income. Therefore, the lower rates fall, the lower the interest income falls. Banks with larger proportions of variable rate loans in their overall books vis-à-vis their fixed deposits base will be most affected by the OPR reduction. In this regard, Alliance Bank Berhad and BIMB Holdings (BIMB) would face the greatest short-term squeeze – variable rate loans account for 90% and 91% of their respective gross loans.

I begin to hear that banks are adjusting their earnings estimate downward for this and next. The second quarter of this year is projected to be even worse. Malaysia reported a 17.1% increase in unemployed persons to 610,500 (3.9% unemployment rate) in March this year following the fallout from the Movement Control Order (MCO). Industry’s loan growth target of 3% and EPS forecast of -1.8% look challenging. As at now, economic outlook may get worse before it gets better. Those counters with high foreign shareholding like Public Bank, CIMB and Maybank will see their share prices to be more volatile.

For the most part of today’s market sentiment, it seems investors are missing out on the signals that are being sent. Banking earnings estimates have been deteriorating and pushing the valuation of these banking stocks to very overvalued levels on both current year and one-year forward earnings multiples. Having said that, I find banking stocks are well capitalised even assuming the most adverse erosion of 100 to 300 basis points, the respective CET1 ratios are still well above the required regulatory level of 7%.

Chee Seng, Wong
CIO, Athena Advisors
wong-chee-seng@outlook.com