Maintain positive: Bank Negara Malaysia (BNM) has released its mid-year review of the financial stability of the banking and insurance sector. Among the key takeaways we have gathered from the report are that: i) the global operating environment became more challenging over the first six months of the year; ii) banks continued to remain resilient in the event of stress on assets; iii) the household debt level remained elevated but households continued to be able to comfortably service their debt and their holdings of financial assets continued to expand faster than debt; iv) financial performances of businesses weakened slightly on lower earnings but the overall debt-servicing capacity remained reasonably healthy; and v) banks were well capitalised and their profitability was sustained.
Household debt grew at a faster rate of 5.1% year-on-year in the first half of calendar year 2019 (1HCY19). As such, the household debt-to-gross domestic product ratio had edged higher to 82.2% as at end-June from 82% as at end-CY18. However, loans for the purchase of residential property remained the key driver, while there was also strong demand for loans for the purchase of securities. In contrast, growth in household loans for consumption remained modest. Despite the elevated level of household debt, there was sufficient coverage as total household assets exceeded debt by 4.1 times. Excluding housing wealth, household financial assets stood at 2.2 times debt.
We like the fact that the banking system’s profitability continued to be healthy, supported by financing activities. Meanwhile, earnings were bolstered by dividend income from subsidiaries and lower loan loss provisions as banks continued to refine their credit risk estimations under Malaysian Financial Reporting Standards 9. Sustained improvements in cost efficiency also moderated the impact of net interest margin compression following the overnight policy rate (OPR) cut in May.
Banks maintained their strong capitalisation level throughout 1HCY19. We note that 77% of banks’ capital continued to be held in the form of high-quality loss-absorbing capital comprising paid-up capital, retained earnings and reserves. The resilience of banks’ capital and profit continued to be underpinned by sound asset quality, supported by the sustained debt-servicing capacity of the household sector. Banks also continued to maintain strong buffers against potential future losses despite slightly higher impairments from business loans given the challenges in selected sectors.
While banks displayed resiliency domestically, external risk increased. Concerns about slower global growth and rising geopolitical tensions led global financial vulnerabilities to remain elevated in 1HCY19. Escalating trade tensions between the US and China also weighed on growth prospects. We observed that this led to heightened cautiousness among businesses in Malaysia, evident from a slower business loan growth.
Due to increased risk from external factors, we turn cautious about the banking sector. However, we note that Malaysian banks remain resilient despite potential stress. In addition, domestic demand, especially private consumption, remains robust and this would continue to support loan growth. On the impact of the OPR cut, we believe that it will normalise. Besides, we believe that there are still positives for banks, such as sustained profitability supported by low credit cost as highlighted by BNM’s report. This should be able to alleviate any weakness in income. Furthermore, we opine that banking stocks in general are currently undervalued given that their fundamentals remain intact. Hence, we maintain our “positive” stance at this juncture. Given the current uncertainties and market conditions, our top picks for this sector are Malayan Banking Bhd (“buy”; target price [TP]: RM10.30), CIMB Group Holdings Bhd (“buy”; TP: RM6.30) and Public Bank Bhd (“buy”; TP: RM24). — MIDF Research, Sept 23