Easing monetary conditions supportive of continued growth not only help stabilise asset quality, loan growth is given a push and prospects of recoveries improve. These, coupled with undervaluation of the sector, in which the larger banks have underperformed in the year-to-date are reasons why we upgrade the sector to OUTPERFORM. Valuations are attractive and undemanding with more banks under our coverage rated as OUTPERFORM except for BIMB (MP, TP: RM4.80), HLBANK (MP, TP: RM20.05), and PBBANK (MP, TP: RM24.10). While we expect a mild impact to banks’ top-lines (negative on NIM but positive on credit demand) from the recent rate cut, bottom-lines are likely to be enhanced as impairment allowances reduce. Our Top Picks are ABMB (OP, TP: RM4.25) and CIMB (OP, TP: RM6.25), which we believe are prime beneficiaries from M&As and tie-ups.

YTD, the KL Finance Index (KLFIN) has underperformed the FBMKLCI with negative returns of- 1.3% versus the FBMKLCI’s +1.1%. The sector’s underperformers were mainly the larger banks, while the likes of BIMB rose (+28%) as concerns on its restructuring issues eased, as did RHBBANK (+6%) MBSB (+6%) and AMBANK (+2%). Among the larger laggards, CIMB (-8%) was weighed down by concerns on its capital market activities, PBBANK revising its loan targets coupled with the fact that it’s the most overvalued banking stock, HLBANK underperforming on concerns of its overseas associate with MAYBANK and AFFIN weighed down by risks of a few impaired accounts.

Improving sector prospects are masked by current concerns over tepid domestic loans growth, spread compression, volatile capital markets and an uncertain global environment, no thanks to trade-war related issues. While caution is the prevailing sentiment due to a generally downbeat economic outlook globally, cautious loan demand and approvals lend to a stable outlook that supports a moderate and stable credit charge for the industry. Banks with healthy asset quality (hence, low impairment allowances) will still be in favour for their defensive quality. We believe a more visible picture from Budget 2020, will give clarity and support for the domestic economy supporting loans growth. The recent OPR 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. From the recent OPR cut, we do not expect any significant impacts on the top-line as we believe that the cut is only to necessitate demand for the banks to achieve their loan targets for 2019. In fact, 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. Nevertheless our loans’ forecast for CY2019 are revised upwards by 20bps to +4.9% on account clarity and certainty post budget 2020.

Following on from the recent news regarding the potential Telenor/Axiata tie-up, we believe M&As’ and tie-ups might also surface for the sector. The Telenor/Axiata proposal can be viewed as a catalyst to boost sentiments of the local bourse. We could probably see the emergence of M&A talks in the banking sector as well, which may act as a major market catalyst. Prior to the consolidation of the banking sector in 2006/07, the valuations for the banking sector, as per the KLFIN Index, were trapped at ~16x PER or ~1.6x PBV. At the height of the banking consolidation activities, these valuations charged to >20x or ~2.5x respectively.

Source: Kenanga Research - 3 Jul 2019