• We initiate coverage on the Malaysia banking sector with an Overweight rating

• We forecast 2024–26E sector earnings growth of +6%/+7%/+7% YoY with key drivers being net interest income expansion (+8%/+7%/+7%, NIM: c.2%) and loan growth of c.7% amidst stable net credit charges (22-24bps)

• Sector top picks: liquid large-cap with strong ASEAN footprint (CIMB, TP: RM9.30), defensive banks with strong asset quality (PBB, TP: RM5.10; HLB, TP: RM24.30), high dividend yielder (RHB, TP: RM7.40), and a small-cap exposure (AMMB, TP: RM6.00)

Stars are aligned

The Malaysia banking sector has seen a strong run year-to-date, with 6 out of the 8 banks outperforming the FBMKLCI. This has been driven by strong 2Q24 GDP growth, the beginning of an easing US monetary policy cycle, and the strengthening of the Ringgit, which has attracted foreign investors back to the sector. Moreover, Malaysia has benefited from favorable policy changes, structural reforms, an influx of foreign direct investments (FDI), and the implementation of various economic masterplans, all of which are positive for banks in the long term. Meanwhile, political stability on the local front is expected, with the next general election at least 3 years away.

Sector valuations are fair despite the share price run-up

The banks under coverage are currently trading at 1.15x forward P/B, which is close to their 10-year mean valuation, with a sector ROE of 10.3%. Excluding PBB, which has historically traded at a premium P/B relative to its ROE, the sector is trading at 1.1x forward P/B, at +1SD its 10-year mean valuation, with an ROE of 10.1%. Overall, we believe the run-up in banks' share prices is justified by positive macroeconomic indicators, stable corporate earnings, robust ROE of 10% vs. 10-year average of 8.9%, and low levels of provisions, with no significant stresses on asset quality, all supporting a valuation re-rating.

Sector earnings to grow 6–7% in 2024–26E

We are positive on the banking sector’s earnings outlook and forecast 2024–26E sector earnings to grow +6%/+7%/+7% YoY, from +16% YoY in 2023. The primary growth driver being net interest income growth of +8%/+7%/+7% YoY and loan growth of c.7% amidst stable net credit charges of 22–24bps, and cost-to-income ratio of 44–45%. We believe NIM has bottomed and should gradually improve in the coming years, averaging at 2%. Non- interest income growth is expected to slow down to c.4% for FY24-26E, from 29% in FY23, primarily driven by fee income.

Initiate Malaysia banking sector with an Overweight rating; Pecking BUYs: CIMB > AMMB > HLB > PBB > RHB

We initiate the Malaysia banking sector with an OVERWEIGHT call, recommending a mix of liquid large cap with a strong ASEAN footprint (CIMB, TP: RM9.30), defensive stocks with strong asset quality (PBB, TP: RM5.10; HLB, TP: RM24.30), high dividend yield (RHB, TP: RM7.40), and small-cap (AMMB, TP: RM6.00). We are positive about the banking sector due to improved sentiment and a favourable operating environment, with limited downside risks to earnings and asset quality, in our view. While ROE has mostly recovered to pre-Covid levels, there is still room for further NIM recovery and non-interest income growth, presenting potential upside risks. Key risks to our Overweight stance include contagion risk from geopolitical issues, extended NIM compression, asset quality deterioration, higher inflationary pressures from upcoming removal of subsidies affecting repayment ability, and weak economic growth.

Source: Philip Capital Research - 11 Nov 2024