• The banking system loans grew by 4.4% yoy in August, while on a ytd-basis, +2.4% (household and business loans up 2.9% and 1.7% ytd).
• On the other hand, loan disbursement, applications and approvals declined mom in August (led by the business sector), after seeing stronger months in June and July.
• We reiterate our NEUTRAL stance on the banking sector, as we think earnings bottomed out in 2Q20. But, the sector is not completely out of the woods given macro challenges. Key upside/downside risks are a shorter/longer unemployment trend and less/more business closures.

Domestic Credit Demand Grew 4.4% Yoy

Ytd, system loans saw a shift in demand for more credit by the healthcare, wholesale/retail and manufacturing sectors, which needed additional loans to sustain challenging conditions or to cope with an unexpected surge in demand (such as ecommerce business, warehousing, delivery services, food production, packaging materials, medical equipment/devices) during the COVID-19 pandemic. Meanwhile, we saw monthly loan disbursements pulling back to RM89bn (driven by slower business loans) vs. the normalized level of ~RM100bn a month which we saw in June and July 2020. At this juncture, it is still too early to tell if the system loan growth is sustainable, due to concerns over a prolonged high 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 tourism and households). We maintain our loan growth target at +2.5% yoy for 2020.

Details of August Loans Growth Trends

i) Business loans saw a 3.3% yoy growth, while mom declined by 0.2%. Disbursement activities moderated by 13.1% mom, largely due to the robust growth in the June and July.

ii) Household loans were up 4.8% yoy, mainly driven by growth in residential mortgages (+7.5% yoy) and personal financing (+6.1% yoy) in particular. New loan approvals and disbursements were largely intact (for residential, auto, personal financing, credit cards).

Gross impaired loans declined 6.1% ytd; GIL ratio improved to 1.4% in August

System GIL ratio saw some improvement from 1.43% in July to 1.4% in August, largely due to a decline in household impaired loans from July to August. To our surprise, system impaired loans saw a decline of 6.1% ytd due to the sharp decline in household impaired loans. Meanwhile, there could be some delayed impact on the classification of non-performing loans due to the moratorium granted by BNM.

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% (with excess liquidity of RM220bn), while the loan-to-fund ratio remained relatively stable at 82.2% in August despite having to meet liquidity needs during the 6-month moratorium period.

To recap, BNM has given banking institutions some flexibility 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 September 2021).

Despite a Decline in the Average ALR, Banks’ Spreads Have Improved

The banking sector average lending rate (ALR) declined further from 3.7% in July 2020 to 3.64% in August 2020. 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 (in-line with a robust growth in CASA of 20% yoy, while FDs growth was flat (-0.2% yoy).

Maintain NEUTRAL on the Banking Sector

We maintain our sector NEUTRAL call, as we do not believe that the banking sector is completely out of the woods. Though we expect a 20% yoy recovery in sector core net profit in 2021E, this is subsequent to a drastic decline of 32.7% yoy in 2020E. 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 14.6% and Total Capital Ratio at 18.3% as at end-July 2020) while the capital buffer (in excess of regulatory requirement) of RM127.5bn as at end-Aug2020, remains fairly robust.

Based on our assumptions for the banking sector for 2020E, we are expecting: i) system loans to grow by 2.5% yoy; ii) NIM of 1.93% (with 4 rate cuts in 2020); iii) net credit cost at 70bps; and iv) CIR at 51%.

Our preferred stock pick is Aeon Credit (ACSM MK, RM10.38, 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 - 1 Oct 2020