The sector's outlook is challenging due to external concerns while clarity and direction on the domestic front remain slightly opaque. With no fundamental change expected and lack of any concrete catalysts, we are inclined to maintain a Neutral stance for the sector. The global and domestic uncertainties are causing concerns of moderate loans growth and soft capital market activities ahead. 2018 saw banks in our universe supported by lower impairment allowances and likely to remain so due to normalization of credit charge ahead. However, valuations are looking attractive with increasingly more banks under our coverage are rated as OUTPERFORM except for CIMB (MP, TP: RM6.10), HLBANK (MP, TP: RM20.60), PBBANK (MP, TP: RM24.10) and RHBBANK (MP, TP: RM5.80). While we expect a mild impact to banks’ top-lines (negative on NIM but positive on credit demand) in the event of a rate cut, bottom-lines are likely to be enhanced as impairment allowances falter (due to better asset quality). Banks with the lowest composition of floating-rate loans will benefit from a rate cut. Our Top Picks are MBSB (OP, TP: RM1.15) and MAYBANK (OP, TP: RM10.20), which are expected to the prime beneficiaries of a rate cut.

Moving in tandem with the FMBKLCI, the KL Finance Index (KLFIN) YTD, still outperformed the FMBKLCI by 9ppt. Supporting the KLFIN were the sharp performances of HLBANK (+19%), RHBBANK (+14%) and PBBANK (+12%) that contrasted to the volatility of CIMB which slumped 21%. 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) with better-than-expected NIMs pushed it into 3rd place. For CIMB, concerns on asset quality from the external front coupled with soft capital market activities saw it slumping into negative territory.

We are Neutral on the industry as uncertainties and headwinds still prevail. The industry remains unexciting, dragged by challenging loans growth, and soft and volatile capital markets. Prevailing negative cum volatile sentiment both globally and domestically will continue to drive uncertainties ahead. Caution will still prevail due to the soft economy outlook globally. Banks with healthy asset quality (hence, low impairment allowances) will still be the favour due to their defensive quality. As such, selective asset growth will still be the focus for the banks. Despite a stable economic outlook in the domestic environment coupled with low unemployment, we opined that cautiousness and selective assets growth will still prevail in the industry. Loans growth moving forward will still be moderate with fee-based income expected to be soft in tandem with the volatile capital market. However, the stable outlook will support a moderate and stable credit charge for the industry.Loans to be driven by Households. Despite the weak sentiments from Households, we believe that 2019 loans will be supported by a resilient household on account of accommodative interest rates and stable asset quality. Further external risks might put a dampener on business sentiments with softer demand and applications with higher risk perceived lowering approval rates. The dampening credit demand might be exacerbated by an increase in corporate bonds as upside pressure on interest rates lessens. While we view that banks will still maintain selective asset quality, the stable system asset will see continued demand from the resilient households especially demand for residential property and personal financing (from quality borrowers). The contained  asset quality should support the growth from households as banks will have a healthier appetite for household loans. Although personal loans and credit cards are on the downtrend, we believe banks will continue to grow these two spaces as asset quality from these spaces are still contained with GIL at 2.1% and 0.92%, respectively (down by 9bps and 25bps, respectively), from a year ago. Approval rate for personal loans/credit card improved/remained stable at 35%/38%.

Impairment allowances (credit costs) to be normalised and stable (as it was a general trend in 2018) ahead, which will lend support to the banks’ bottom-lines. A rate cut augurs the possibility of a lower default rate and higher recoveries, which will lower impairment allowances. However, we do not discount another potential up-cycle of impairment allowances, especially those highly exposed to the energy sector (i.e. CIMB, MAYBANK and RHBBANK) when slowdown/recession occurs.

With or without rate cut, we expect compression for NIM as most of the banks’ LDR (loan-to-deposit ratio) are above the industry level of 93%. More so, for those that having CASA levels below the industry average of 29%. Looking at the slowing momentum in household demand, we also discount the likelihood of competitive lending rates in the short term ahead as banks strive to achieve their loans growth target. As such, while the rate cut will add downside pressure on NIM, our analysis shows that banks could see more positive impacts (stronger loans growth and asset quality). Generally speaking, banks that beneficiaries from a rate cut are those having lower composition of floating-rate loans; namely, AFFIN (67%) and MBSB (40%).

Our CY19E earnings estimates are revised downwards (from our last strategy report), 670bps to -1.0% YoY on account of higher base in CY2018 (RM27.6b vs 25.9b previously). CY19E earnings will be driven by: (i) lower credit charge at 0.27% (from 0.34% previously) as credit charge normalised, and (ii) NIM at 2.14% (down by 5bps) due to shoring of deposits, and (iii) lower fee-based income growth at +4.3% (from +5.8% previously) to take into account positive of soft and volatile capital market activities due to prevailing uncertainties. The potential rate cut will not have a significant impact on a full-year basis as re-pricing of deposits will occur after 3-6 months. Our outlook for loans is maintained at <5% (~4.9%) based on guidance and a moderating but stable economic outlook. In the event of an OPR cut, we downplay the significant impact on top-line as we believe that the cut is only to necessitate demand for the banks’ to achieve target for 2019. However, we believe that the cut will support the banks’ bottom-line as credit charge will likely be lower on account that probability of default will be lower with faster recovery rate as interest is reduced.

Recommendation

Our Top Picks for the upcoming quarter are MBSB (TP: RM1.15) and MAYBANK (TP: RM10.20): -

MBSB’s floating-rate loans portion is at 40% (the lowest in our banking universe) as >59% of its outstanding loans/financing are skewed towards personal financing and it will be the least impacted in the event of a rate cut. However, the rate cut will likely push up personal financing demand and we do not expect uptick in impaired assets from this space given that its personal financing is by salary deduction and selective towards the middle to higher salary scale from civil servants and corporates. Our TP is at RM1.15 as we ascribed a target PBV of 0.90x (implying a 1SD below the mean) to reflect our reservation on its loan growth (4-6% target vs our assumptions of ~4%) ahead due to prevailing uncertainties. However, as the stock is trading at an undemanding valuation (with a potential total return of >23%), we rate it as OUTPERFORM.

MAYBANK’s floating loans portion (72%) is the lowest among the top four banks (CIMB, PBBANK and RHBANK). Its CASA ratio (34%) is the second highest among banks in our banking universe. We believe its relatively lower exposure in floating-rate loans and high CASA ratio will alleviate NIM pressure in the event of a rate cut. Being the biggest bank with the greatest number of branches should support its CASA from intake from depositors. Prudent asset management saw GIL falling ~2.4% (FY18) coupled with falling credit costs by 9bps to 0.31% and with an OPR cut, we expect improved credit charge and better credit demand. Our TP is at RM10.20 on a target PBV of 1.35x (previously 1.27x) implying a 0.5SD below mean (from 1.0SD below) to reflect better asset quality and lower impairment allowances ahead. Valuations are undemanding at the current price level, dividend yield is still the most attractive in our banking universe at >6.0%, implying a potential total return of >16%. OUTPERFORM.

Source: Kenanga Research - 3 Apr 2019