Even though 6.8% of system loans are deemed to be of higher credit risk and is above BNM’s earlier stress test GIL ratio of 5.4%, in our view, banks have made decent pre-emptive bad loans provision and it has been adequately priced in by the market. We still reckon that Covid-19 woes will likely fizzle out in 2022 while the state of the economy and banking sector will only get better in time. Retain OVERWEIGHT; BUY calls include: Maybank, Public, RHB, BIMB, and Affin.

Last week, BNM published its 1H21 Financial Stability Review Report. In this write-up, we collated the key highlights relevant to the banking sector.

Sturdy enough to absorb hits. Despite the resurgence of Covid-19 infections (which pose risk to financial stability), our banking sector stayed resilient and have absorbed rather than amplifying macro shocks, thanks to ample capital and liquidity buffers: (i) strong CET1 ratio of 14.7% (2020: 15.2%) along with (ii) robust LCR of 150.0% (2020: 148.2%). Although 6.8% of system loans are deemed to be of higher credit risk and is above BNM’s earlier stress test GIL ratio of 5.4%, we are still not overly concerned as (i) banks have made decent pre-emptive allowances in FY20-21 (according to BNM, cumulative management overlays represented c.40% of total provisions, implying 11% coverage for these riskier loans i.e. 8x more than the level for performing loans) and (ii) we reckon credit risk has been adequately priced in by the market, looking at the elevated NCC assumption employed for FY21-22 by both us and consensus (similar provisioning magnitude to Stage 3 with sector average LGD of 37%).

Resilient HH borrowers. Total household (HH) debt-to-GDP ratio fell to 89.6% (2020: 93.2%), thanks to quicker GDP growth. We note HHs were still borrowing within their means where the median debt service ratio for outstanding/new loans are 35%/41% respectively (2020: 35%/43%). Also, aggregate financial asset-to-debt ratio stood at 2.2x (flattish vs 2020) and if only liquid financial asset is considered, the debt cover is 1.5x (2020: 1.5x). At end Jun-21, 16% of outstanding HH loans were under repayment assistance (RA) and it shot up to 30% in Jul-21 on the back of wider coverage for loan moratorium. However, application for this has peaked in 1H of July and weekly new sign-ups have fell sharply thereafter. That said, it was not solely driven by borrowers in distress as 33% of applicants were partly using it to build up precautionary buffers, and to a minor extent for stock investments. The estimated most vulnerable borrowers (highly leveraged with monthly earnings <RM5k and who are more likely to deplete their cash or deposit buffers) only accounted for 1.2% of banking system loans.

Biz recovered slightly. For businesses (Biz), interest coverage ratio has improved to 5.4x (2020: 4.9x), debt-to-equity ratio dropped to 21.9% (2020: 22.5%) and the cash to-short-term-debt ratio remained stable and robust at 1.4x (2020: 1.4x). However, the re-imposition of stricter nationwide containment measures towards end-2Q21 could briefly set back some of these financial improvements. That said, the share of firms at-risk (28.4%) decreased from earlier peak (32.7%) seen in 2020 but was still higher than pre-pandemic levels (21.4%). At end Jun-21, 21.6% and 17.2% of outstanding SME and non-SME loans were under RA while those identified to be of higher credit risk, formed 2.2% and 3.4% of banking system loans, respectively.

Retain OVERWEIGHT. The sector’s risk-reward profile continues to skew favourably to the upside as most negatives have been considered by the market. In our opinion, Covid-19 woes will likely fizzle out in 2022 while the state of the economy and banking sector will only get better in time. Furthermore, valuations are undemanding and there is ample liquidity in the market. We have BUY ratings on Maybank, Public Bank, RHB, BIMB, and Affin.

Source: Hong Leong Investment Bank Research - 4 Oct 2021