Broker's Take: DBS cuts target prices for OCBC, UOB on credit cost pain

DBS Equity Research on Tuesday cut its target prices for OCBC and UOB on heightened credit costs and margin pressures, following the US Federal Reserve's 100 basis point (bps) rate cut in response to the global novel coronavirus outbreak.

The bank-brokerage cut its target price for OCBC to S$8.60 from S$11.00, and that for UOB to S$19.00 from S$25.50, seeing pain in reduced earnings and dividend payout from the two banks. The revised target prices reflects two standard deviations below their average 10-year forward price-to-book (P/B) ratio, or 0.8 times P/B.

Assuming further the trough valuation seen during the Global Financial Crisis (GFC) at 0.7 times P/B, OCBC and UOB should be trading at S$7.80 and S$17.40 respectively, DBS Equity Research said. 

It kept its "hold" rating on both counters. 

As at 10.07am, shares of OCBC were down seven Singapore cents to S$8.63, while UOB was up five Singapore cents to S$19.50. DBS, which is not rated by the brokerage, was down 33 Singapore cents to S$18.25. Singapore banks have corrected by at least some 20 per cent to nearly 30 per cent since the start of the year.

The 100 bps rate cut announced by the Fed, with the Fed funds target at 0-0.25 per cent, brings the range back to the zerobound where it was at the 2008 GFC. DBS Equity Research further trimmed OCBC and UOB’s net interest margin (NIM) forecasts by another 5-8 bps for 2020 to reflect lower cost of deposits, which is unlikely to offset loan yields.

Lower rates crimp NIM, a rate which is earned from pricing interest-bearing assets such as loans after accounting for funding costs such as deposits.

The brokerage has also raised credit costs further for OCBC and UOB to 36 bps and 33 bps respectively.

"Supply chain disruptions has evolved to be more a global than a regional one. While governments across the world are putting on emergency measures to arrest the Covid-19 situation, we believe increased travel restrictions could push recovery of global travel and consumption further out, on top of worsening domestic economy outlooks. We continue to be watchful for further downside risks."

In trimming earning forecasts, DBS Equity Research now assumes lower dividends on reduced profits. It expects UOB to minimally pay S$1.10 dividend per share (DPS), which is the bank's 2019 base dividend level, and for OCBC to pay about 50 per cent of its underlying profit, or about S$0.48 DPS. These represent about 5.5-5.7 per cent dividend yield at current levels.