Both system loans and deposits growth gained traction to 4.1% and 4.4% YoY, respectively. Also, leading indicators improved from a low base and the better asset quality is artificial, owing to the 6-month automatic loan moratorium. That said, interest spread narrowed and potentially another OPR reduction (-25bp) in 2H20 will exert pressure on NIM. Overall, it is too early to claim that pain points from Covid-19 crisis are behind us. The sector may have to contend with risk of a lag in NPL formation and advent of a second wave infection. However, these are balanced out by deflated valuations (P/B close to -2SD & lower than GFC’s level). Retain NEUTRAL and the only banking stock that we like now is RHB (TP: RM5.80), primarily for its strong CET 1 ratio, relatively large untapped FVOCI reserves, and undemanding valuations.

Loans growth ticked up a little. Jun-20’s system loans growth gained some traction to 4.1% YoY (May-20: 3.9%) as household (HH) lending picked up pace to 3.5% while the business (Biz) segment slowed slightly to 4.2%; although still resilient and above our +2.0-2.5% full year growth estimates, we see a slowdown in the upcoming months given confluence of events from Covid-19 headwinds. For HH, the improvement came from mortgage (+6.9%) and personal financing (+4.4%). While for Biz, working capital (+5.0%) continues to be the main contributor.

Leading indicators gained from low base. Loan application expanded 8.0% (May20: -39.0%) due to better credit demand from HH (+16.4%) but Biz remained weak (- 2.4%). Also, loan approvals improved as it declined at a slower rate of 12.7% (May20: -54.4%) given more accommodative lending for Biz (-5.2% vs May-20: -40.3%) while HH was still relatively tight (-20.1% vs May-20: -67.7%).

Quicker deposits growth of 4.4% (May-20: +2.8%) as CASA accelerated to 16.8% (May-20: +13.7%); however, fixed deposits continued to taper (-1.0%). Consequently, Jun-20’s loan-to-deposit ratio (LDR) was a tad lower at 88% (near to the peak of 89%, back in Feb-18). In general, deposit taking competition is benign as banks are trying to optimize down their cost of funds.

Asset quality improved as gross impaired loans (GIL) ratio ticked down 9bp MoM to 1.46%; this was broad-based across all sub-segments where HH declined 8bp while Biz fell 11bp. Considering the Government has agreed to extend the loan moratorium and banks will provide targeted assistance, we see the sector’s GIL ratio to remain at low levels for the rest of the year. However, it may hide actual damage and cause a lag in non-performing loan (NPL) formation if the situation does not improve rapidly or an advent of Covid-19 second wave paralyses the country again. Interest spread shrunk. Both the average lending and 3-month board fixed deposit rates slipped 12bp and 2bp MoM respectively. As a result, the spread contracted 10bp MoM to 2.03%. We reckon the squeeze will persist and we see weaker net interest margins (NIM) outlook given the recent OPR reduction and potentially another one (- 25bp) in 2H20. Furthermore, there is diminishing flexibility to optimize LDR.

Maintain NEUTRAL. We believe it is too early to claim that pain points from Covid-19 crisis are behind us. The sector may have to contend with risk of delayed deterioration in asset quality and advent of a second wave infection. However, these are balanced out by deflated valuations. For exposure, the only bank we like now is RHB (BUY, TP: RM5.80) given its appealing risk-reward profile, backed by undemanding valuations, strong CET1 ratio of 16.6% (sector: 14.0%), and relatively large untapped FVOCI reserves. Separately, we have SELL ratings on Public (TP: RM14.80) and Affin (TP: RM1.55) for rich valuations and lacking the economies of scale to vie, respectively

Source: Hong Leong Investment Bank Research - 3 Aug 2020