Despite record earnings, generous dividends, analysts lukewarm towards DBS as outlook turns cautious
Despite reporting record net profit of $2.57 billion in 1QFY2023 ended March after setting aside $99 million in general provisions and adding $200 million to its management overlays, analysts are not excited over DBS Group Holdings’ results. This was also the case with United Overseas Bank (UOB). It too had reported a record net profit of $1.58 billion in 1QFY2023 ended March.
In fact, analysts are giving the cold shoulder to banks. Goldman Sachs is perhaps the boldest. It has downgraded DBS to a “sell” and UOB to “neutral”. Some market observers are commenting that Goldman is late to the game. RHB has a “neutral” rating on DBS, downgraded from an earlier “buy”, while CGS-CIMB has kept DBS as “neutral”. Overall, there are still more “buys” than “neutral” or “sell” ratings. But increasingly, analysts, like investors, are concerned about the outlook.
As early as 4Q2022, it was evident that inflation was in the process of being tamed, and the US Federal Reserve had already made its largest rate hikes — usually a boon for banks. While the net interest margins (NIM) of both UOB and DBS in 2022 averaged 1.86% and 1.93% respectively, both banks are guiding higher levels this year with DBS forecasting 2.05%–2.1% and UOB forecasting 2.1%–2.2%, which means 1Q2023’s NIM represents a peak of sorts.
Banks have other levers, but net interest income is still their largest earnings contributor. An analyst who declines to be named says: “Personally, I think Singapore banks have a stability premium in this market where banks are collapsing, like Credit Suisse, First Republic Bank and Silicon Valley Bank. I understand that local banks are still getting a lot of money from this shift and in fact declining some of it. I believe wealth management, especially DBS Private Bank, could surprise on the upside and investors may pay a bit more for stability.”
DBS group CEO Piyush Gupta says: “On the actual number that we got from Credit Suisse, we don’t know, it’s hard to estimate. I had indicated earlier that I think we’ve been beneficiaries in the last year of inflows because of the flight to safety. Some of those inflows are from North Asia. Some of those inflows are from other banks, including the troubled banks in the US and Credit Suisse. As part
of our overall portfolio for our clients, we have $309 billion of assets under management. About half of that is in deposits and half of that is in assets.”
According to Gupta, net new money in March “almost doubled to $3.6 billion compared to a monthly average of $2 billion in 2022”. In 1Q2023, net new money inflows into DBS totalled $6.2 billion.
However, Gupta indicates that wealth customers are disinclined to invest on margin or to borrow money, and would prefer to put their own monies to work, most probably because of the rising cost of debt.
Lower dividend payout ratio
DBS has maintained its quarterly dividend of 42 cents, or a payout of $1,083 million in 1QFY2023. This works out to be a 42% dividend payout ratio. DBS is usually more generous, with a policy of paying 50% of net profit in dividends. If its $2.57 billion quarterly net profit is maintained throughout the year, DBS could always distribute a special dividend, as it did last year. With a lower dividend payout ratio, DBS’ net asset value has risen q-o-q and y-o-y to $21.41 (see table).
Some analysts are wondering if there will be a special payout as DBS transitions to Basel IV. “The implementation of Basel IV will give DBS a transitional two percentage points uplift to CET1, allowing it the option of not replacing its AT1 securities. With its CET1 ratio of 14.4% (as at March 31) being above its targeted 12.5%– 13.5% range, capital management plans may include raising ordinary dividends or declaring a special dividend,” CGS-CIMB writes in its May 3 update.
DBS group CFO Chng Sok Hui says: “We have $2.4 billion of AT1. We do not need to refinance that when it comes up [to be called]. Our [CET1] ratio is actually quite strong under the Basel IV regime, we expect it to go up by about two percentage points; and that should be sufficient to cover any AT1 instruments that mature, so it doesn’t affect the dividend payout and it doesn’t affect the final CET1 number that we will also be reporting.”
Cautious tone on outlook
Perhaps analysts were spooked by Gupta’s cautious tone, and the lower dividend payout ratio. He is guiding for loan growth of 3%–5% this year, with NIM of 2.05%–2.1%. The NIM is higher than the 1.93% achieved for the whole of FY2022, but lower than 1QFY2023’s 2.12%.
Although housing loan bookings recovered in 1QFY2023, they are likely to experience some impact from the latest cooling measures where additional buyer’s stamp duty (ABSD) was raised for all categories except for first-time buyers. For foreigners, ABSD was raised from 30% to 60%. Gupta indicated that 88% of the bank’s consumer mortgages are to first-time buyers and owner-occupiers, hence the impact on its mortgage book may not be too material.
Gupta also explained why DBS is guiding for a NIM that is lower than 1QFY2023’s 2.12%. “The increase in rates is pretty much passed through. We don’t think the Federal Funds Rate is going to go up much more. We don’t expect a reduction in rates. But during the year, we think another $30 billion to $40 billion of deposits
have to reprice [upwards] and that repricing means the cost of funding will gradually go up.”
The deposit repricing works out at around 20% of deposits repricing upwards for the rest of 2023. In the meantime, the low Hong Kong Interbank Offered Rate (Hibor) (50 bps–60 bps below US rates) is also a drag on NIM. Still, the NIM decline will be gradual, as 22% of its commercial bank interest-bearing assets have yet to reprice.
“These are countervailing forces, the cost of deposits is going to continue to creep up. Some of the loan book is going to continue to reprice. When you put all of that together and model it, then we think that you start seeing a gradual decline in our overall NIM,” Gupta says.
In 4QFY2023, DBS had separated reporting on its Treasury & Markets (T&M) division from the rest of its commercial book. Rising interest rates are unfavourable for T&M revenue booked as net interest income. This is due to higher funding costs for its non-interest bearing and markedto-market assets, where the returns are shown under the non-interest income line as well as net interest margin compression for its fixed-income instruments.
“Both last quarter and this quarter, for net interest income, the T&M book is negative. We are actually running a loss on the T&M side. That’s because you have to fund [fixed income] with these high interest rates. Therefore, on the interest rate, income side, they lose money. They make it up on the non-interest income side. In totality, T&M makes about $275 million in income a quarter,” Gupta elaborates.
But the drag from the T&M portfolio is reflected in the bank’s overall NIM.
Raising general provisions
Although asset quality is expected to remain resilient, Gupta guides specific provisions (SP) for the year at 10 bps to 15 bps compared to just 6 bps in 1Q2023. In fact, after a general allowance writeback in 1QFY2022, DBS set aside $99 million in general provisions in 1QFY2023 and the bank added to its management overlay.
“Why are we adding up to $200 million in management overlay? The short answer to that is this high interest rate environment is not precedented. Therefore, we’re just being abundantly prudent and cautious in case there is some stress that comes out of the system,” Gupta says. While banks do not have to reveal their management overlays, DBS is likely to have around upwards of $2.2 billion in overlays.
Its non-performing loan (NPL) ratio was unchanged q-o-q at 1.1%. “The 1.1% number doesn’t show it but NPLs came down by $300 million. That’s partly because of low new NPA [non-performing asset] formation and we’ve also been getting repayments on some of our old NPLs,” Gupta explains.
The unprecedented rate of interest rate hikes has given rise to stresses in the US. Among them are concerns over the commercial property market, in particular office property. This in turn has caused some S-REITs with US office properties to tumble in price as investors re-calibrate the potential valuation declines these office properties could suffer. In addition, a couple of Chinese S-REITs are having problems refinancing their loans.
“The bulk of our commercial property exposures, 90% of it is in Singapore and in Hong Kong. Our clients are among the top conglomerates, the big ‘hongs’. The residual 10% of our commercial property book is around the world including the US, the UK and China, and they are again very high-end obligors. All our stress-testing against that hasn’t given us any cause to worry. Our average LTVs [loan-to-value ratios] on the commercial property book are relatively low, in the 40% to 50% range,” Gupta says. “I don’t have specific data with respect to S-REITs on me, but all the stress testing that we’ve done on the entire portfolio has covered everything.” —