Singapore banks face scrutiny on asset quality at upcoming Q2 results

Singapore

MOUNTING concerns over asset quality are likely to take centre stage at the upcoming quarterly results of Singapore's banking trio as companies brace for a prolonged crisis.

With businesses facing a triple whammy of lockdowns, a deep recession and the gradual unwinding of relief support measures, analysts say there is already potential loan default risk from virus-battered small and medium-sized enterprises (SMEs) that will, in turn, weigh on banks' earnings in the second quarter.

Net profit is widely expected to come down for Singapore banks, with growing pressure as well to pull back on dividend payouts amid the regulator's call to shore up capital.

Citi analyst Robert Kong said Q2 is likely to be the quarterly earnings trough for DBS and UOB. He is looking at DBS's Q2 profit falling 37 per cent year-on-year; OCBC, 29 per cent; and UOB, 39 per cent.

As Singapore sinks into a deeper recession, there is "low visibility" on the pace of economic recovery, he noted.

Amid the sluggish operating environment, analysts flagged that SME loans, in particular, will come under pressure of default.

DBS analyst Lim Rui Wen said the sector's Q2 earnings could take a hit from larger-than-expected non-performing loans (NPLs) from various sectors or as combined with commodities-related exposure.

While UOB and OCBC's oil and gas exposures have "largely been taken care of", Ms Lim said she remains watchful on asset quality, especially in the SME space, as higher credit costs could be indicators of an acceleration in economic slowdown.

She forecast that every 10 basis points (bps) uptick in credit costs might impact sector earnings by some 7-8 per cent.

Maybank-Kim Eng's head of research Thilan Wickramasinghe said lockdown-driven NPLs are likely to pick up pace in Q2, particularly in the hardest-hit frontline sectors.

"Provisioning costs should see material quarter-on-quarter momentum as the brunt of regional lockdowns and economic downgrades manifest," said Mr Wickramsinghe.

About 12 per cent of Singapore's economy is at the "epicentre" of the Covid-19 crisis, with the pandemic due to structurally impair some sectors, the Monetary Authority of Singapore (MAS) said in July.

CGS-CIMB has estimated for credit costs in Q2 to stay elevated at around 54 to 66 basis points (bps) from overlays, a pre-emptive move against potential credit quality deterioration at the end of the year.

Citi's Mr Kong flagged a potential second round of asset quality pressure, due either to a second wave of Covid-19 cases - at worst case requiring a further period of lockdown - or with SMEs and unemployment impacted by the "cliff effect" of loan moratoria wearing off.

MAS has sent a fresh signal that government relief measures will have to start tapering off by end-December 2020. It would be unsustainable to have them continue indefinitely, given worries on debt accumulation, it said in July.

This revives questions on the full impact of such unprecedented relief on banks' earnings, which comes as some "zombie companies" are likely hanging on merely by the government's helplines.

One uncertainty for the banks comes as a part of their quarterly income reflects accrued income from borrowers taking a debt holiday.

Maybank-Kim Eng estimated that about 12-16 per cent of total loans are under moratorium and other relief schemes from the local banks.

Citi's Mr Kong said it may be prudent for investors to consider upcoming interim dividends on the basis that the banks' reported accounting earnings are higher than actual cash earnings received, even as the disparity is not material at this stage.

Another thing to note is the likelihood of such loans souring into bad debt when the moratoria eventually expire. Recent MAS data showed that more than 5,300 SMEs' secured loans have received repayment deferments till end-December 2020. To add, more than 10,600 enterprises have also taken up about S$9.4 billion of loans between March and June via Enterprise Singapore schemes.

The three local banks are also estimated to have granted payment deferments to more than S$15 billion worth of mortgages as at the end of June this year. All in, the total value of deferred mortgages in Singapore make up almost 10 per cent of all outstanding mortgages.

The S$15-billion worth of deferred mortgages account for nearly 80 per cent of approved mortgage debt relief applications, a MAS spokesperson told The Business Times last week.

DBS' Ms Lim said various mortgage and debt moratoria for SMEs amounting to S$26.4 billion will expire towards year-end, though she expects applications for moratoria to be on the rise through year-end.

Jefferies analyst Krishna Guha has factored in a peak NPL ratio of about 3.5 per cent for the sector, compared with the current 1.6 per cent.

While moratoria are expected to stay only till year-end, repayment schedules may be worked over the next two years. This is likely to lead to a protracted credit cycle, he said. "Further, revenue outlook is uncertain."

Phillip Securities Research analyst Tay Wee Kuang told BT it would be a "wild guess" on the eventual default rate arising from at-risk loans. Meanwhile, the banks have set aside allowances to cater for future losses.

The eventual impact on bank earnings when loan moratoria taper off will largely depend on the amount of government aid that banks can receive - should conditions worsen beyond expectations, Mr Tay noted.

DBS' Ms Lim is expecting the weaker second-half outlook to persist beyond 2020 in the absence of a virus vaccine. "We believe extensions to moratoriums into Q1 2021 may be given, on a targeted approach."

With the recent collapse of benchmark interest rates, analysts have also projected record-worst net interest margin (NIM) compression in Q2 that will impact the sector's interim dividend payout. Q2 NIMs are widely expected to be near their all-time post-global financial crisis (GFC) low.

CGS-CIMB analyst Andrea Choong cautioned that the risk of lower interim dividends due to NIM headwinds may trigger some profit-taking by investors. "With benchmark rates close to bottoming out, we think NIM declines in coming quarters will be comparatively subdued."

Q2 will likely mark the bottoming out of quarterly NIMs, said Jefferies' Mr Guha. While steep rate declines will pose a drag to margins and revenue, banks are likely to benefit from lower deposit rates.

That being said, he noted that earnings are unlikely to recover to FY19 levels over the next three years.

Questions around dividends come too as MAS last week called on Singapore banks to cap dividends for FY2020 at 60 per cent of the amount in the previous financial year, in a move to conserve capital amid the uncertain climate.

Shareholders should also be offered the option of receiving the dividends to be paid for FY2020 in scrip in lieu of cash, said MAS.

Analysts cautioned that banks are likely to see steep declines in share price in the short term following MAS's announcement on the dividend cap. On Thursday, a day after MAS's announcement, DBS shares closed 63 cents lower at S$19.77, OCBC shares fell 34 cents to S$8.56, and UOB shares dropped 63 cents to S$19.39. The Singapore Exchange was closed on Friday due to a public holiday.

DBS and UOB will report their Q2 earnings and interim dividends on Aug 6, while OCBC will wrap up the results season on Aug 7.

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