• The banking system loans grew by +4.1% yoy in June20 while on a ytdbasis, was up 1.6% (household and business loans +0.9% and +2.6% ytd).
• Loan applications and approvals turned more positive in June (driven by passenger cars, mortgages, personal financing), while disbursements rose to a more normalized level.
• We reiterate our UNDERWEIGHT stance on the banking sector, as we do not think that the sector is completely out of the woods yet. Key risks are a prolonged unemployment trend and business closures.

COVID-19 pandemic driving the shift in demand-supply chain

On a ytd basis, the banking system loans saw a shift in demand for more credit by the healthcare, wholesale/retail and manufacturing sectors, which needed additional loans to sustain under challenging conditions or to cope with an unexpected surge in demand (such as e-commerce business, warehousing, delivery services, food production, packaging materials), as a result of the COVID-19 pandemic. Meanwhile, we saw the monthly loan disbursements rising to a more normalized level in June 20 (somewhat similar to the trends in 2018-2019), with household loans picking up as well. At this juncture, it is still too early to tell if the system loan growth is sustainable, due to concerns of a prolonged unemployment trend and business closures, which would likely result in potential write-offs of loan exposures (in sectors such as O&G, construction, real-estate, transportation and households). As such, we maintain our current forecast of a 1% yoy decline in system loan growth.

Details of June20 loan growth trends

i) Business loans saw a 4.2% yoy growth, while mom, rose by 0.6%. Disbursement activities rose by a robust 30.2% mom while loan approvals were up 41.4% mom.

ii) Household loans were up 3.8% yoy, mainly driven by growth in residential mortgages and personal financing in particular. New loan approvals and loan applications rose >100% mom (largely for auto loans, mortgages, personal financing).

Gross impaired loans declined 3% ytd; GIL ratio improved to 1.46% in June

System GIL ratio saw some improvement from 1.55% in May20 to 1.46% in June20, largely due to a decline in household impaired loans from May to June. To our surprise, system impaired loans saw a decline of 3% ytd due to the sharp decline of 5.3% mom in June20 (primarily in residential property, vehicle-financing and personal financing). Given the flexibilities granted by BNM for loans which are subject to ‘restructuring and rescheduling’ (R&R), in particular for borrowers genuinely facing cashflow issues, these accounts will not be classified as impaired in the system.

Banking system LCR remains ample, but expect to decline further

The banking system continues to operate at a comfortable Liquidity Coverage Ratio (LCR, Fig 29) of 149%, while the loan-to-fund ratio remained relatively stable at 82.1% in June20. We expect the banking sector’s LCR and net-stable-funding-ratio (NSFR) to continue declining in the next 6 months in light of liquidity needs of the banks during the 6-month moratorium period.

To recap, BNM has given banking institutions some flexibilities in the LCR (allowed to be maintained below 100%) and net-stable-funding-ratio (NSFR) requirement, which has been lowered to 80% during this pandemic (only to revert to 100% from 30 Sept 2021).

Despite a decline in the average ALR, banks’ spread has improved

The banking sector average lending rate (ALR) declined further from 4.01% in May20 to 3.89% in June20. Nonetheless, an improving spread between the ALR and the 12- month FD rate indicates that banks NIM pressure is easing (despite the rate cuts) as banks’ overall funding cost eased.

Maintain UNDERWEIGHT on the banking sector

We maintain our sector UNDERWEIGHT call, as we do not believe that the banking sector is completely out of the woods yet. Though we expect a 13% yoy recovery in sector core net profit in 2021E, this is subsequent to a drastic decline of 28.6% yoy in 2020E, on our forecasts. In our view, the banks’ balance sheets and liquidity positions will be subject to more stress in 2020-21E due to the moratorium period offered to borrowers as well as higher risk of defaults as economic circumstances remain uncertain. That said, we still take comfort in the strong capitalization levels (CET1 ratio at 14% and Total Capital Ratio at 17.7% as at end-June 2020) while the capital buffer (in excess of regulatory requirement) of RM245bn as at end-February 2020, remains fairly robust.

Based on our assumptions for the banking sector for 2020E, we are expecting: i) system loans to decline by 1% yoy; ii) NIM of 1.93% (with 4 rate cuts in 2020); iii) net credit cost at 56bps; and iv) CIR at 48%.

Our preferred stock pick is Aeon Credit (ACSM MK, RM9.20, BUY; TP RM12.70 based on 13x CY21E EPS). We believe that there is a value proposition in Aeon Credit as we look to a recovery year in FY22E, with receivables growth of 9% yoy (vs. -3% yoy in FY21E) and a lower net credit cost of 304bps (vs. 358bps in FY21E). AEON Credit remains a key player in consumer financing through credit cards, personal financing, motorcycle financing and used-car financing. Its 'value-chain transformation project' comprises: i) online loan applications/ approvals; ii) a B2C2B digital marketing strategy; iii) the use of AI in its credit assessment model; and iv) process automation to help boost top-line growth and enhance operating efficiency. Aeon Credit's high ROE of 15.8% in FY22E is underpinned by the use of leverage and ability to generate an EIR at 16-17%, vs. traditional banking players at 5%. Downside risks to our call: rising unemployment rate and increased defaults.

Source: Affin Hwang Research - 3 Aug 2020