Fed's rate cut thrusts Singapore banks into thicker fog

Singapore

THE surprise rate cut by the US Federal Reserve overnight has only added to the skittishness about the strength of economic growth ahead, and with that, banks here have become enveloped in further uncertainty.

As it is, Singapore banks had warned last month of a revenue impact of just 1-2 per cent from the novel coronavirus outbreak, though with a caveat that it should break by the middle of this year.

Still, shares of banks here are down in the year to date. Interestingly, some 60 per cent of share buybacks recorded last month - already doubled over the month at S$68 million - came from share buybacks by DBS, Singapore Exchange (SGX) data showed. (Share buybacks can signal that a firm sees the shares as undervalued and so buys them for employee compensation plans or long-term capital management.)

Now, with the Fed pushing through an off-cycle rate cut of half a percentage point - the first unscheduled emergency rate cut since 2008 - investors should expect further drag on the banks' net interest margin.

Citi Research quickly slashed its target prices for Singapore banks, and shaved its earnings estimates for the trio by 4-8 per cent. Singapore bank counters took another beating on Wednesday, even as The Straits Times Index nudged higher at close.

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DBS lost 25 Singapore cents to end at S$23.91; shares of OCBC fell 10 Singapore cents to S$10.55, while those of UOB lost 27 Singapore cents to end at S$24.

Citi is expecting a further 25 basis point (bps) cut as part of the two-day Federal Open Market Committee meeting that ends on March 18, bringing a total pass-through of 75 bps Fed cuts to the Singapore banks in the form of 50 bps lower Singdollar rates for now. Singapore interest rates typically track US rates.

DBS is expected to take the biggest hit at a projected 8 per cent cut to profits and dividends, Citi said. It also cut its earnings and dividend estimates by 4 to 5 per cent for OCBC, and 5 per cent for UOB.

As it is, loan growth this year will be patchy. Fitch expects Singapore banks' loan growth to slow to 1.5 per cent in 2020, down from about 3 per cent last year, as economic growth is stalled by the virus.

Meanwhile, China remains a big growth engine for Singapore banks in the region. Data from the SGX showed that Singapore banks have more than doubled their Greater China business since 2010. Combined Greater China income grew from S$2.33 billion in 2010, to S$6.42 billion in 2019.

The virus outbreak is disruptive to global supply chains that link, more than ever, to China. It is also disruptive to building business relationships - right down to avoiding handshakes.

To be sure, the Singapore banks can fire up growth through non-interest income, which roughly makes up 30-40 per cent of total income for them. This naturally includes growth in wealth management, with the trio averaging 18 per cent year-on-year growth in wealth management income, SGX data showed.

But wealth management is still a richly competitive space. It is likely that talk of acquisitions to bulk up growth in this area will continue to swirl this year, as banks weigh hefty price premiums against the need to grow their fee income at scale in this lower-for-longer rates environment.

The three banks had guided earlier that they would have ample buffers to withstand credit concerns as a result of their exposure to vulnerable sectors such as tourism, retail and aviation.

But the estimates of higher credit costs, rising overall by five bps, from the banks have already raised some scepticism from analysts. Among other concerns, they noted that this assumes the impact of the virus outbreak does not stretch beyond mid-2020.

Meanwhile, as economists have argued, a Fed rate cut now does little to contain supply or demand shocks caused by the virus outbreak. What it has done, instead, is spook markets that things may be worsening to warrant an off-cycle rate cut.

US stocks closed sharply lower on Tuesday amid recession fears.

Seema Shah, chief strategist at Principal Global Investors, said while the surprise cut should lead to an easing of financial conditions that had tightened sharply in recent weeks, questions remain about how policy rate cuts can help the economy if quarantines and travel barriers are introduced.

"Rate cuts will not help restock emptying grocery shelves. Monetary policy is hopeless when supply simply cannot feed demand."

A Morgan Stanley report said that current risks to supply-chain disruption and consumer confidence, especially when interest rates are already near all-time lows, may be harder to address directly via coordinated policy easing. "A peak in new coronavirus cases is far more of an instructive signal than rate cuts."

Singapore lenders' forecast revenue impact of 1-2 per cent likely needs to be adjusted, with analysts to watch this in Q1. The Fed's surprise signal has indeed thrown the banking trio into a thicker fog.