Tepid growth for banks in face of regulations

S'pore lenders are also kept on their toes over the lucrative trade financing business

[SINGAPORE] Banks in Singapore, like their competitors around the world, are facing growth challenges against the backdrop of Basel III, which has raised acquisition costs for minority stakes in banks, and made it more expensive for banks to own overseas subsidiaries.

The homegrown lenders are also kept on their toes over the lucrative trade financing business: They have to keep a watchful eye on competition for funding, as foreign banks - which were under pressure to keep their leverage ratios in check have been granted a concession for trade financing under Basel III - can edge back in with more ease.

To be sure, the Singapore banks are in a very clear position of strength and have operated with caution. In particular, they are not highly leveraged - a situation that has forced major global banks to shed assets - and they still enjoy very strong credit ratings.

Still, banks here cannot escape the blunt force of regulations that has hit the entire financial industry.

"Today, banks are caught, and it's very difficult to grow," says Lim Eng Hock, partner and practice leader at EY.

A clear consideration is mergers and acquisitions. Under Basel III, a bank that holds a minority share exceeding 10 per cent of another lender must have its holding fully deducted against its capital. The rationale is that banks cannot rely on stakes that they do not control, in the event of a crisis.

Against this, acquisitions of a majority stake in most Asian banks are often subject to caps on foreign ownership. DBS Group Holdings quit its proposed acquisition for Indonesia's Bank Danamon last year, because it was not allowed to buy more than 40 per cent of the bank.

"From a capital perspective," says Darren Tan, chief financial officer of OCBC Bank, which is negotiating to buy Hong Kong's Wing Hang Bank, "we prefer to acquire majority stakes where possible. However, in instances where a majority stake is not immediately available, we will still give the opportunity due consideration if there is strategic value in the acquisition."

United Overseas Bank's approach to overseas growth is to expand the platform for customers to tap trade flows within the region, says its CFO, Lee Wai Fai.

DBS puts priority on pursuing organic growth, and adopts "a disciplined approach" to M&A, says Chng Sok Hui, its CFO.

There are also challenges with organic growth, as each subsidiary from a foreign bank must park assets specific to the regulatory requirements of the country.

This move by regulators, while capital inefficient, contributes to a more focused and region-specific risk strategy, says Gary Chia, head of financial services regulatory compliance at KPMG Singapore. Given the short-term nature of liquidity shocks, depending on head office for quick funding raises "wrong way risks", he adds.

DBS's Ms Chng says: "The so-called 'balkani-sation' of the financial landscape is an emerging risk, potentially resulting in captive capital and liquidity pools within each jurisdiction and impacting the pursuit of synergies across regional operations."

She adds that DBS is adopting a digital strategy to expand its footprint in growth markets.

UOB's Mr Lee says: "Funding pressures will serve as a growth constraint for mid-sized banks like us outside of Singapore, particularly amid a backdrop of tightened liquidity conditions in the region. UOB has always emphasised funding stability. We must also be selective in the customer segment we engage in and avoid large concentration risks."

Easing of regulations also affects Singapore banks, in that foreign banks that are highly leveraged no longer have to meet higher standards and can compete with them, say the local banks, which have made inroads in trade financing in recent times.

Revisions to Basel III in January gave greater differentiation to instruments linked to trade financing, through a measure known as a credit conversion factor (CCF) - used to determine credit exposure - for off-balance-sheet positions, an issue that triggered the global financial crisis.

"There was a lot of uproar around the trade finance business," says James Stewart, general manager at the Asia-Pacific compliance division of Wolters Kluwer Financial Services, in explaining the dilution of the rule.

For example, short-term self-liquidating letters of credit (LCs) used in the movement of goods are subject to a 20 per cent CCF, but standby LCs used as guarantees for loans and securities will get a CCF of 100 per cent. The higher the CCF, the higher the exposure.

This is used to compute a leverage ratio, which Singapore banks are already very comfortable meeting. For example, the minimum under Basel III is 3 per cent. DBS's leverage ratio is already 7.2 per cent. Banks are waiting for the Monetary Authority of Singapore to put out its consultation paper on the ratio soon.

Meanwhile, competition in US-dollar funding is likely to intensify, given the anticipated growth in trade financing, and the liquidity requirements of Basel III, says OCBC's Mr Tan. Trade financing is still mostly greenback-denominated.

Under conditions proposed by MAS - which should be finalised soon - banks need to ensure that their liquidity coverage ratio (LCR) for US dollars is 40 per cent by 2015, and increase this in equal annual steps to 80 per cent by Jan 1, 2019.The LCR shows how well banks can manage short-term obligations, and is measured by the bank's stock of high-quality liquid assets - such as cash and securities backed by sovereigns and central banks - against the total net cash outflows over the next 30 calendar days.

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