DBS is Nomura's top pick as it is the biggest beneficiary of higher interest rates. Its strong deposit franchise in Singapore, with local current and saving accounts (CASA) of 87 per cent, allows it to keep its funding cost low.
Besides DBS, Nomura also has a "buy" rating on OCBC and UOB. OCBC's share performance lagged that of its local peers last year. Nomura believes this was due to the acquisition of Wing Hang Bank; however, with the capital raising done, it said the stock could perform this year as revenue synergies emerge and the bank divests non-core assets.
Nomura believes that if the increase in interest rates does not materialise, the share price appreciation would be modest. Higher interest rates are good for the Singapore banks as they are able to reprice their assets much faster and by a bigger magnitude compared to their liabilities.
This is because an estimated 70 per cent of their interest yielding assets have maturities of less than 90 days, an estimated 85-90 per cent of the loans are pegged to floating interest rates, the local deposit rates are not linked to market rates, about 50 per cent of the deposits are in the form of CASA deposits, which typically do not respond to changes in market rates, and only about 2 per cent of their assets are in trading positions which are susceptible to mark-to-market writedowns.
Nomura estimates that DBS's return on equity could expand to 12.6 per cent in FY16 forecast from the current 11 per cent (excluding divestments) as interest rates rise. Nomura believes this is a strong catalyst for re-rating.
DBS's strong deposit franchise in Singapore allows it to enjoy low funding cost, as these CASA deposits remain relatively immune to higher interest rates.
The stock appreciated 20 per cent in 2014, outperforming the local market by 14 per cent. At 1.24x forward book, it is, in Nomura's view, inexpensive relative to its improving profitability profile.
With the equity raising exercise over, Nomura believes investors will return their focus to OCBC. Nomura does not expect significant revenue synergies from the merged entities anytime soon, but it believes expanding net interest margins under a higher interest rate environment could excite the market. In addition, divestment of non-core assets could provide another catalyst.
UOB is trading at 1.31x book, 7 per cent below the historical mean. Nomura believes higher interest rates could help re-rate the stock as its return on equity expands to 13.1 per cent in FY16 forecast.
Nomura expects the first interest rate hike to take place in September this year.