Yesterday, BNM held its annual briefing where the Central Bank unveiled its 2014 Annual Report along with its Financial Stability and Payment Systems Report. Important takeaways include: (i) risks from high household debt were well contained, (ii) the property segment chugged along, (iii) stable leverage and credit risk outlook for businesses, and (iv) no systemic dislocations from volatile external developments with limited contagion risks. All in all, from a balance sheet perspective, our banking system continues to be robust and in good shape. However, on profit and loss standpoint, banks are likely to see their bottom-line growth taper. We maintain our NEUTRAL stance on the sector as it still lacks re-rating catalysts. We have selective OUTPERFORM calls on BIMB (TP: RM4.72) and MAYBANK (TP: RM10.26).

Risks from high HH debt were contained. Household (HH) indebtedness inched up to 87.9% of GDP in 2014 (2013: 86.7%). BNM expects the high level of HH debt to persist over the next few years given that existing loans in the system have a relatively long average maturity of 10 years. Furthermore, demand for credit is expected to stay strong, backed by urbanisation along with a young, affluent population. However, this should moderate only once when affordable housing and improvement in the general public transportation become more entrenched in the country. Nevertheless, BNM reckons the risks are well contained as: (i) HH debt grew a slower pace of 9.9% (2013: +11.5%); also, this marks the softest growth since 2008 (+10.0%), (ii) the ratio of HH financial asset to HH debt remained above 2x, (iii) debt repayment ratio (DRR) improved to 44.2% (2013: 47.0%), (iv) new HH borrowings are of higher quality; ~80% of new HH loans have a DRR <60% and half with DRR <40%, (v) lesser credit were directed to HH with monthly income <RM3k as this segment only makes up 26.7% of total HH debt (2013: 27.3%), and (v) the banking system is able to absorb severe shocks from the HH sector; assuming 2x probability of default (PD) and higher loss given default (LGD) of 1.1x-1.6x from a baseline scenario, an estimated expected loss of ~RM39bn is within the absorption capacity of the banking system at 40% excess capital.

Property segment chugged along. Notwithstanding the easing of growth in house prices, BNM shared that structural pressure such as demand and supply mismatch for affordable housing still lingers. That said, the mismatch is expected to improve with the aid of the private sector (by building more affordable homes) and following the various initiatives championed by the National Housing Council (such as the planned construction of 150k low cost homes nationwide and the implementation of rent-to-own schemes for lower income group). To note, credit-induced speculative purchases of residential properties remained in check. Following the introduction of loan-to-value (LTV) limit on borrowers with three or more outstanding housing loans back in 2010, the growth for this segment had moderated, rising by only 2.9% (2013: +5.3%); now it makes up only 3% of total outstanding housing loans. Also, the proportion of housing loans with LTV <70% to total outstanding housing loans were relatively stable at 48.0% (2013: 53.4%). Sensitivity analysis by BNM showed that with a stressed PD of up to 13% (~3x of the baseline scenario PD) coupled with a 40% adverse correction in house prices, the banking system’s excess capital buffer is able to cover >5x the estimated expected losses.

Stable leverage and credit risk outlook for businesses. According to BNM, credit risk from the business sector is well controlled with sound overall debt servicing capacity and liquidity positions. This, in turn, had enabled borrowers to cope with undesirable movements in forex and commodity prices throughout the year. Thus, credit risk outlook for the sector is expected to improve despite the challenging business conditions for some industries. Overall, business loans growth moderated to 6.8% (2013: +10.4%). Comforting factors include: (i) business debt-to-GDP ratio trickled down to 96.9% (2013: 98.4%), (ii) stable debt-to-equity ratio at 42.7% (2013: 40.0%), (iii) interest coverage ratio still robust at 6.4x (2013: 7.7x), (iv) asset quality improved as impaired loans ratio declined to 2.5% (2013: 2.8%), and (v) the exposure of banks to the O&G sector is <2% of total credit exposures to businesses; based on a stimulated materialisation of default, the O&G sector has an estimated potential loss of only RM226m or 0.2% of the banks’ excess capital.

No systemic dislocations from volatile external developments with limited contagion risks. Volatility in the domestic financial markets was due to unfavourable developments on the external front, which weighed down sentiment and risk appetite, causing investors to flee from emerging markets. BNM expects this trend to persist over the short-term. However, it is not alarming as domestic funding conditions remain favourable and supportive of financing activities; this is underpinned by banks’ stable funding profile, which largely consists of MYR-denominated deposits (makes up ~70% of banks’ funding base). Furthermore, non-resident deposits continue to account for a small proportion of total deposits (<4%). The aggregate surplus liquidity remained robust at RM270bn as at end-2014. With regards to overseas banking operations, its contribution to total banking assets was still <20% while for profits, it accounted from between 7%-31% in 2014.

Source: Kenanga