The sector‘s outlook looks challenging ahead due to external factor concerns while clarity and direction on the domestic front are still murky. With no fundamentals change expected and lacking any concrete catalysts, we are inclined to maintain a Neutral stance for the sector. Most of the banking stocks in our universe are at MARKET PERFORM. The on-going trade friction is causing concerns of loans growth and soft capital market activities ahead. We maintain on our view of moderate loans growth of 5-5.5% (with a downside bias) for FY18 plus softer fee-based income; hence, revision of our FY18E earnings. While we have OUTPERFORM calls for AMBANK (TP: RM4.50), BIMB (TP: RM4.90) and MBSB (TP: RM1.45), we also see MAYBANK as a non-OP Preferred Pick as it could potentially benefit from lower provisions due to lower impairments from its O&G assets alongside with strong oil prices.

Moving in tandem with the FMBKLCI, the KL Finance Index (KLFIN) YTD, still outperformed the FMBKLCI by 5.8ppt. Driving the KLFIN were the sharp performances of PBBANK (+21%) and HLBANK (+22%) while the other two heavyweights i.e. CIMB and MAYBANK slumped 5% and marginally, respectively. PBBANK and HLBANK have the added advantage of stable and consistent asset quality with Gross Impaired loans (GIL) and credit costs the best performing in the industry. For RHBBANK receding concerns of its O&G portfolio (with unexpected recovery in impairments) pushed it into 3rd place YTD. As for CIMB and MAYBANK, concerns on the domestic and external front saw both slumping into the negative territory.

Recap on 2QCY18 Results

2Q18 results were mostly within expectations (ours/consensus) with one above (RHBBANK) and 2 below (AFFIN and CIMB). The in-line results were mostly attributed to lower impairment allowances (despite 2018 being the start of the implementation of MSFR9) as loans and fee-based income came mostly short of target. AFFIN underperformed due to unexpected higher impairment allowance while CIMB underperformed due to lower-than-expected loans and downside pressure on NIMs. RHBBANK exceeded expectations on strong Islamic banking income and unexpected lower impairment allowances.

For the quarter, we saw slower loans (hit by uncertainty of domestic political events), weak fee-based income as capital markets were affected by recent geo-political events. However, on the positive side, we saw asset quality improving with lower impairment allowances and strong Islamic banking income due to higher Islamic mortgage financing coupled with lower impairments.

Sequentially, earnings improved at a higher pace both QoQ and YoY. While QoQ earnings improved by 6ppt, only 3 banks improved QoQ, notably ABMB (+20.8%), AMBANK (+37.2%) and MAYBANK (+4.7%) while the rest reported decline in earnings. Both AMABNK and ABMB saw stellar growth on account of lower opex and impairment allowances (with the former’s opex lower due to the absence of MSS incurred in the previous quarter) as top-line was a drag, falling at 6.9% and -0.6% respectively. MAYBANK’s top-line growth was similarly flattish (+0.3%) but earnings bolstered by lower opex and lower tax rate. The rest too saw falling top-line with the exception of AFFIN’s which top-line grew +3.7% on account of strong Islamic Banking income and NOII at +6.3% and +10.3%, respectively, but was dragged by higher impairment allowances of >+100% (to RM91.9m).

On a YoY basis, earnings were stellar at +25.8%, partly due to falling impairment allowances as top-line growth was mixed and mostly moderate. Top-line was dragged by falling or moderate NII and NOII but boosted by strong Islamic banking income. CIMB saw falling top-line (-7%) Islamic Banking Income surged (+27.4%), HLBANK saw improved top-line (+6.3%) boosted by strong Islamic and NOII (at +17.4% and +13.5% respectively), MAYBANK (moderate top-line +3.2%) boosted by strong Islamic income (+12.4%) but moderate NOII (+5.3%) and RHBBANK saw strong top-line (+8.1%) supported by strong Islamic banking income (+18.0%).

Loans below target but Islamic financing and income growing. Majority of the banks saw loans falling below initial target/guidance; hence, revision of their loan targets for FY18. Notable in lowered targets are; ABMB (target: >+10%), BIMB (target: +~8%), CIMB (target: +~6%), MAYBANK (target: +5-6%), MBSB (target; 6-7%), PBBANK (target; >+5%) and RHBBANK (target; +5-6%). However, only PBBANK and RHBBANK revised their loan target (revised targets; 4-5% for PBBANK and 3-4% for RHBBANK) for FY18, while those like CIMB and MAYBANK maintained their targets (albeit cautiously for MAYBANK) with the expectation of surge in corporate lending once clarity in government policies/direction are announced in late October/November. While loans moderated, Islamic financing consistently grew at double digits (2Q18: 16.6% YoY/4.1% QoQ) in tandem growth of Islamic assets (2Q18: +13.2% YoY). Part of the reason for the strong Islamic income due to most banks property loans that are skewed to Islamic property financing where impairments allowances are lower hence better income. We expect loans to be supported by resilient household ahead underpinned by mortgage loans; hence, we expect further upticks in Islamic banking income.

Capital market activities remain weak, but insurance business supported banks fee-based income. Weak capital activities saw banks’ fee-based income slumping in 1H18, with NOII falling 13% QoQ and 9% YoY. For BIMB and MAYBANK, the positive traction in fee-based income comes from their insurance business; BIMB’s takaful income improved by 12% YoY whilst for MAYBANK, its insurance business rebounded >+100% mitigating the falling fee and investment trading income. HLBANK’s double-digit growth (+15%) was due primarily to gains in disposal of financial assets. Fee-based income looks likely to be challenging ahead as the on-going trade friction continues.

Deterioration in asset quality due to selected sectors and individual accounts. There has been a significant uptick in the industry’s impaired loans with the inclusion of MBSB’s impaired loans since 1Q18. Stripping off MBSB’s impaired loans, industry GIL would have been at 2.02% for 2Q18 (1Q18: 1.93%) with the uptick due mostly to involvement in sensitive sectors, i.e. real estate (AFFIN) and infrastructure (MAYBANK) and involved either 1 or 2 accounts but concerns are muted as these loans are currently being restructured.

Industry’s credit cost saw an uptick in 2Q18 due to the entry of MBSB. Stripping off MBSB, credit charge would be at 0.26% (1Q18: 0.27%). As expected, credit costs are receeding compared to 2017 (due to unexpected write-backs as economy stabilize and commodity prices perform better) and trending to normalize for the rest of the year. Again, upticks in AFFIN and MAYBANK’s credit costs are due to provisioning on sensitive sectors and involved 1 or 2 large corporate accounts.

Overall asset quality for the sector is looking fairly stable with the stable economy and employment and mitigating further deterioration in asset quality.

Forecasts

We are cautious going forward despite the stable economic outlook domestically as external concerns still linger for the sector. Despite the stability, selective asset growth will still be on the menu for banks on concerns from the external front. Approval rates in the system are still tight, down by 1ppt YTD from 45% (Dec 17), indicating cautious outlook from the banks. Part of the caution on assets is due to curbing potential higher credit charge under the MFRS9 era. Although credit cost seems to have normalized, we do not discount sudden spike in credit charge on sharp spike downwards on economic outlook. Hence, we tone our FY18E earnings outlook, say growing at +6.8% YoY (from +9.4% YoY) lower than initial expectations on slower loans and moderate capital market activities. Our industry loans growth is also lowered by 70bps to +6.6% YoY (from +7.3% YoY) and we expect fee-based income to grow at a mere +3.5% YoY (vs. +12.5% YoY previously).

Valuation and recommendation

Challenging growth…we reiterate NEUTRAL. Moving forward, we maintain our NEUTRAL outlook as we view selective asset growth, soft capital market activities ahead plus the lack of clear concrete catalyst and game changer going forward. We have MARKET PERFORM calls for most of the banking stocks under our coverage except for AMBANK, BIMB and MBSB, which are rated as OUTPERFORM due to their attractive valuations.

We also reiterate our OUTPERFORM call for BIMB, as its financing portfolio (70% of total financing) is skewed towards household (75% first-time buyers for residential property) with its focus on growing its personal financing (1H18: 30% of total financing and giving higher yields) will minimise NIM compression. BIMB FY18 Net Financing Margin (NFM) is expected to be flattish (with the issuance of the CAGAMAS bonds) and higher CASA (1H18 surpassing its CASA target ratio of 30%), boosted by improving low costs transactional Investment Account with lending rate to be resilient and better with the traction in personal financing. On restructuring concerns, the general view is that BIMB will have to raise proceeds via rights issue (to pay of the RM1.3b debt) which will dilute its shares. With Capital Ratio and CET1 at 17% and 13%, respectively, (at the bank level), we hold the view that its capital is adequate to repay the RM1.3b Sukuk liabilities. As of 2Q18, CET1 of 13% amounts to RM4.8b (of which RM2.2b is from retained earnings) which can be used to cover the RM1.3b Sukuk. While this repayment might dent its dividend pay-out, the Group’s forward earnings (assuming a conservative 3-year CAGR of ~5%) ahead will still be able to support its dividend pay-out of 35-40% (vs. 2015-17 average pay-out of 38%).

Another Preferred Pick…MAYBANK. MAYBANK’s 1H18 results were within expectations on account of lower impairment allowances and strong NOII. Although credit charge was high at 45bps, stripping off the impairments on Hylux; the charge would be lower at 33bps. We believe ROE (FY19E: 9.8%) would be potentially enhanced by 20 to 40bps on account of: (i) Hylux divestments by 1Q19, and (ii) the strong oil prices giving rise to lower impairments ahead. With a potential dividend yield of >6% and potential total returns of >10%, MAYBANK is also our preferred pick to capitalise the favourable 4Q.

Source: Kenanga Research - 4 Oct 2018