This article first appeared in The Edge Malaysia Weekly on April 3, 2023 - April 9, 2023

THE downfall of three mid-sized US banks, led by Silicon Valley Bank (SVB), plus the Swiss government-arranged takeover of Credit Suisse Group AG by its larger rival UBS Group AG dealt a huge blow to investor confidence on the health of banking stocks globally. Fears of a full-blown financial crisis continue to weigh on sentiment.

The jitters were reflected in Malaysia, though movements were not as pronounced as the swings seen in key markets globally. Year to date (YTD), the Finance Services Index on Bursa Malaysia has slipped 4.9% to close at 15,689.18 points last Wednesday, tracking the 5% decline in the benchmark FBM KLCI during the same period.

Both Bank Negara Malaysia and the Securities Commission Malaysia — which regulates asset management companies — had last week, during briefings in conjunction with the release of their respective annual reports, assured that the fundamentals of Malaysian banks and financial institutions remain robust. Bank Negara also does not expect a SVB-type banking crisis to happen in Malaysia.

Is this a good time to accumulate local banking counters, whose stock prices have come under pressure in the past two months?

CGS-CIMB Securities Sdn Bhd banking analyst Winson Ng reiterated his “overweight” stance on banks in a March 30 note, telling clients that he is “positive on the improvement in banks’ asset quality revealed in Bank Negara’s 2H2022 Financial Stability Report (FSR). As such, we reaffirm our ‘overweight’ stance on banks, predicated on potential rerating catalysts from stronger growth in non-interest income in 2023, and potential write-back in management overlay. Our picks for the sector are RHB Bank, Hong Leong Bank and Public Bank”.

The head of a bank-backed research house is less positive, flagging deteriorating fundamentals globally on the back of possible rate cuts in the West, rising credit costs on economic headwinds as well as the potential of a sell-off in banking stocks if massive foreign outflows are triggered.

“First, because of what is happening in global banking, western central banks are likely to be less hawkish going forward, and they might even cut interest rates in the later part of the year. Given that, it’s safe to assume that NIMs (net interest margins) for Malaysian banks have already peaked.

“For the economy, there are headwinds. Although it does not suggest that we are heading for a recession. But, suddenly, the downside risk is there. Chances are that credit costs will rise,” he tells The Edge. “And the third reason is that foreigners will sell banking stocks first if they want to exit the local market even though foreigners’ holdings of Malaysian equities are very light.”

Given the reasons above, the research house says it will be more attractive to buy into banking stocks if there were another 10% correction in share prices.

RHB Research banking analyst David Chong sees an overhang in banking stocks owing to the mixed views on the global outlook. “Banks’ share price performance is very much dependent on how the macro environment is. With the uncertainty, they have been trading range bound. That said, there are some very good dividend-yielding banks that can tide you through this period.” In its 2H2022 FSR released last Wednesday, Bank Negara stated that market valuations of listed banks in the country have not fully recovered to pre-pandemic levels, reflecting investor concerns over lingering uncertainties in the banks’ operating environment in 2023.

Local banks’ average price-to-book value (PBV) came in higher at 0.9 times as at December 2022, compared with 0.8 times as at June 2022, with the average price-earnings ratio (PER) edging up to 12.2 times from 11 times during the period under review.

However, these valuations were still lower than the average PBV ratio of 1.1 times and PER of 11.5 times between 2015 and 2019, said the central bank, which expects financial market volatility to remain elevated, cautioning that it could continue to weigh on banks’ trading and investment income, although current market risk management strategies by the banks point to a modest impact on profitability.

Bloomberg data shows that local banks are trading at an average PBV ratio of 0.9 times, with trailing 12-month and forward 12-month PERs of 10.6 times and 8.7 times respectively.

Similarly, Kenanga Research banking analyst Clement Chua is cautious on the banking sector, pointing to potential further negative developments in global financial markets.

“Investors may be on the lookout for red flags from other foreign banks, which may in turn further drag local banking sentiment. After Credit Suisse, Deutsche Bank is another systemically important bank that came under the spotlight. It is possible that the fear of a global banking meltdown could even suppress risk takers from taking bargain-hunting opportunities in spite of Malaysian banks’ more sound fundamentals,” he tells The Edge.

The jump in Deutsche Bank’s credit default swaps — or a steep rise in the cost of financial derivatives pegged to the bank — is adding to the fear of contagion from the ongoing banking turmoil.

In dealing with the SVB and Signature Bank fallout, the Biden administration was quick to adopt a series of emergency measures to protect depositors, but investors remain wary of risks to other lenders as a result of sharp interest rate hikes.

Domestically, Chua says the rising cost of funds from stiffer competition for deposits is a “natural effect” during an interest rate upward cycle. “I’m not too concerned about it. As the OPR (overnight policy rate) flatlines, industry profit rates would become less obscure and banks will start to react more competitively against their peers. However, over time, this too may arrive at a steady state as banks find common ground in profit margins and product differentials may be less obvious. This may happen during the latter part of the year, unless the OPR is to see another movement.”

Chong notes that higher cost of funds and compressed NIMs are just parts of the normalisation for banks.

“The cost of funds in 4Q2022 was still lower than pre-Covid levels, and the gap should close this year given the time lag to reprice deposits after the OPR hikes last year.”

Given the financial market uncertainty, analysts do not expect a statutory reserve requirement (SRR) hike this year. While raising the SRR should technically improve financial stability, Chua says Bank Negara may still be observing the effectiveness of raising the OPR in curbing inflation while keeping economic growth in check. “Raising the SRR would tighten money supply and may impede growth beyond the desired levels.”

Chua sees gross impaired loans improving while moving away from the repayment assistance programmes. That said, it would be subject to surprises in inflationary pressures as shifts in affordability would undermine loans repayment by previously untroubled accounts.

Following the 5.7% loan growth in 2022, Chua anticipates expansion in industry loans to ease to between 4% and 4.5%, in line with the expected moderation in economic growth, as some sectors may be more adversely affected by rising interest rates, inflation as well as global macro conditions.

The central bank forecast the economy to only grow 4% to 5% this year, owing to the global slowdown’s impact on exports, coupled with concerns over elevated costs of living and input costs, which are expected to affect spending by households and businesses.

During the media briefing last February in conjunction with the release of its financial results, Malayan Banking Bhd (Maybank) group president and CEO Datuk Khairussaleh Ramli said it is expecting NIMs to narrow by five to eight basis points this year from 2.39% in the financial year ended Dec 31, 2022 (FY2022). This is in view of the slower pace in rate hikes and intensified competition among peers.

Since early this year, almost all banking stocks have taken a beating, with Bank Islam Malaysia Bhd being the top loser. It has lost 20.9% in market value at the time of writing, followed by AMMB Holdings Bhd (-10.1%), Alliance Bank Malaysia Bhd (-7.9%) and Public Bank Bhd (-7.9%). Only Malaysia Building Society Bhd delivered a positive return of 8.9%.   

When asked, the head of a local research house acknowledged that there was heavy selling pressure in stocks such as AMMB and CIMB Group Holdings Bhd, whose share price has slipped 7.6% YTD due to their high foreign holdings. “It’s quite troubling. The Malaysian market is so cheap, but banks are out of favour.”

He, however, points out that Public Bank Bhd has the strongest provisioning buffers, which will keep the group resilient if things turn sour. The country’s second-largest banking group’ loan loss coverage ratio of 272% as at end-December 2022 was well ahead of its peers, including Hong Leong Bank Bhd (210%), Malayan Banking Bhd (Maybank) (127.5%) and Alliance Bank (125%).

Not all analysts are downcast, however. Hong Leong Investment Bank (HLIB) research analyst Chan Jit Hoong is turning bullish on banks following the recent sell-off.

“In our view, the market has broadly baked in negative headwinds into forward expectations, which thus reduces the odds of downside surprises and tips the sector’s risk-to-reward profile to be more favourable.

“Also, we believe the prominence of FY2023 NIM slippage may be smaller than initially feared and asset quality risk remains tame. Besides, we do not foresee Malaysian banks suffering from the same fate as SVB. All in all, we advocate to employ a more trading-oriented strategy as we believe the market will stay choppy. As such, we tactically upgrade the sector to ‘overweight’ and raise Public Bank to a ‘buy’,” he says in a March 20 note.

Chua favours banks with wider safety nets, such as Public Bank for its stellar asset quality and highly collateralised loans portfolio, and RHB Bank for its leading Common Equity Tier 1 capital and dividend yield potential of about 7%.

Bloomberg data shows that RHB Bank has the highest dividend yield of 7.3% while Maybank and Alliance Bank have 6.9% and 6.8% respectively.

Amid the selling pressure, the Employees Provident Fund (EPF) has been the strongest support for local banking stocks.

Filings with Bursa Malaysia show that EPF mopped up 250,000 and 500,000 Maybank shares on March 22 and 23 respectively, raising the pension fund’s stake to 13.88% from 13.64%.

Similarly, the EPF increased its stake in CIMB to 13.39% after acquiring 9.79 million shares between March 20 and 23.

The EPF saw its shareholding in Public Bank rise to 15.09% on March 21, following the purchase of 14.56 million shares for the week of March 13 to 17.

To be sure, the pension fund also took profit on some banking stocks. It sold 24.33 million shares in RHB Bank between March 21 and 23, paring its stake to 40.18%. The fund also sold 1.9 million shares in Alliance Bank reducing its stake in the bank to 10.28% from 10.4% a month ago.

Even so, the presence of the country’s provident fund with RM1 trillion in assets may have been among the reasons why any steep undervaluation in the local market should correct with time.

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