Investment Highlights

• Bank Negara Malaysia (BNM) announced a further 25bps increase in interest rate, raising the OPR from 2.75% to 3%. The represents the 5th rate hike, bringing the cumulative OPR increase to 125bps since May 2022. The timing of the rate hike was surprising given that both 3-month KLIBOR and 10-year MGS yield have been tapering.

• With the OPR normalised to 3.00% at pre-pandemic level, we see a likelihood of no further rate hikes for the remainder of 2023. The benchmark interest rate was raised by another 25bps on 3 May 2023 after 2 consecutive pauses in the earlier 2 Monetary Policy Committee (MPC) meetings. The latest rate hike of 25bps to 3% was based on grounds that core inflation remains elevated although headline inflation has been trending downwards. Also, it was based on firm demand condition with housing spending seen as resilient.

• No negative impact seen on asset quality of banks from the 25bps increase in OPR in view that 50.3% of financing to household sector are fixed rate loans. In Malaysia, interest rates have only been raised by 125bps to normalise the policy rate. As a comparison, the US benchmark rate has been increased by a whopping 500bps cumulatively since 16 Mar 2022.

• In line with other central banks’ actions globally which are also at the tail end of monetary policy tightening to lower inflation. In US, the Fed Funds rate was recently raised by another 25bps to a range of 5%-5.25% in May 2023. A pause in further monetary policy tightening in US will not be ruled out based on the May policy statement which signalled that the Federal Open Market Committee (FOMC) tone was less hawkish, suggesting that any additional rate hikes will depend on cumulative monetary policy tightening and other incoming data. This was a shift from Mar 2023, where some Fed members alluded that further policy tightening was appropriate.

• No changes to our recommendations and earnings forecast of banks except Bank Islam where we have factored in a higher credit cost assumption. Typically, a full year impact of any 25bps hike in OPR will lift banks’ NIM by an average of 5-6bps and net profit by 3%. Despite the OPR increase by another 25bps, we continue to expect banks’ NIM to be compressed by higher funding cost this year. Nevertheless, the OPR hike will partly cushion the compression in NIM. Funding cost will be higher in 2023 premised on: i) the reprising of deposits to higher rates; ii) higher SRR cost, iii) gradual normalisation in CASA ratio to pre-pandemic level, and iv) continued deposit competition albeit less intensive than in 4Q22. Our forecast has already baked in an average NIM compression of 4bps for the sector in 2023 from an interest margin of 2.34% in 2022. On Bank Islam, we have lowered our FV to RM2.30/share from RM2.80/share after factoring in higher credit cost assumptions of 35bps/30bps for FY23F/24F from 20bps previously. With a lower ROE of 7.6% for FY23F, we now peg Bank Islam to FY23F P/BV of 0.7x compared to 0.9x earlier.

• Retain our OVERWEIGHT stance on the sector with top BUYs on RHB Bank (FV: RM6.70/share), CIMB Group (FV: RM6.50/share) and Alliance Bank (FV: RM4.20/share). We are OVERWEIGHT on the sector based on expected improvement to non-interest income (NOII) of banks coming from a better investment and trading income, lower provisions from potentially gradual release of management overlays which will mitigate lower net interest income (NII) from margin compression, undemanding valuations with the sector trading at 0.9x FY23F P/BV and attractive average dividend yield of 6%.

Source: AmInvest Research - 5 May 2023