This article first appeared in The Edge Malaysia Weekly on January 18, 2021 - January 24, 2021

MALAYSIA’s reimposition of a Movement Control Order (MCO) last week casts a shadow on the banking sector’s prospects, with some wondering if it will derail an anticipated strong recovery in the lenders’ earnings this year.

Analysts say it is too soon to tell as it will ultimately depend on how long the so-called MCO 2.0 goes on for. It is widely expected that the two-week MCO, imposed on six states from Jan 14, will be extended given the high number of new Covid-19 cases in the country.

Six other states are under a Conditional MCO and two under a Recovery MCO.

For now, analysts are sticking to their projections for the sector but emphasise that the downside risks have heightened.

RAM Rating Services Bhd is of the view that MCO 2.0 may temper loan growth and overall economic recovery momentum and, in turn, banks’ profitability outlook.

“The severity of the impact rests heavily on the duration of the lockdown although business conditions are less affected compared with MCO 1.0. Given the current situation, a two-week curtailment may not be sufficient. Profitability pressures would also heighten should there be a cut in the overnight policy rate (OPR),” Wong Yin Ching, its co-head of financial institution ratings, tells The Edge.

“While the disruption to business activities will weaken some borrowers’ debt-servicing aptitude, the impact on banks’ asset quality is likely to be contained as targeted repayment assistance remains available to SMEs (small and medium enterprises) and individuals.

Moreover, banks are proactive in restructuring or rescheduling corporate loans. These measures will curb delinquencies that could otherwise occur,” she adds.

RAM is holding on to its projection of loan growth of 2% to 3% for this year, and worst-case gross impaired loan (GIL) ratio of 3% to 3.5%. “However, downside risk to our forecast has notched up,” Wong states. As at last November, the banking system’s GIL ratio stood at 1.53%.

Although banks are allowed to operate during the MCO, the concern is that their earnings could be negatively impacted in three ways, says CGS-CIMB Research.

The first one is if Bank Negara Malaysia makes a further cut to the OPR to cushion the impact of the lockdown on the economy. Any further cut to the OPR, which already stands at a record low of 1.75% after the central bank cut the rate by a total of 125 basis points (bps) last year, will be detrimental for the banks’ net interest margins (NIM), the research house says. It estimates that a 25bps cut in the OPR would lower banks’ net profit this year by about 2%.

It remains to be seen if Bank Negara will cut the OPR on Wednesday, its first monetary policy meeting for the year. Some research houses expect a 25bps cut, while others feel the central bank may stand pat on the rate as it takes a wait-and-see stance.

The second is a potential increase in default risks, as there may be more borrowers whose income and cash flow are affected by the MCO. However, CGS-CIMB Research points out that the ongoing repayment assistance offered by banks to borrowers on a targeted basis until June 30 would help to alleviate this risk.

The third is lower loan growth due to reduced business activities. The research house, which expects loan growth of 4% to 5% this year, estimates that a one percentage point reduction in loan growth would lower its projected net profit this year by 0.8%.

CGS-CIMB Research, nevertheless, continues to have an “overweight” call on the banking sector, with its top stock pick being Public Bank Bhd at a target price of RM25, as it seen to be the most defensive against credit risks arising from the Covid-19 outbreak.

After shunning banking stocks for most of last year, investors began chasing them again from November on the back of optimism of a strong economic recovery, with Covid-19 vaccines arriving soon. Public Bank’s shares fell 20 sen to RM20.08 last Tuesday in reaction to the news of the MCO, before gaining ground to end the week at RM21.20, giving it a market capitalisation of RM82.3 billion.

Chan Jit Hoong, banking analyst at Hong Leong Investment Bank (HLIB) Research, says while there are uncertainties brought about by MCO 2.0, the point to remember is that, unlike previously, the lockdown is not nationwide and most businesses are still allowed to operate.

“So, this time around, the damage is not going to be as bad, even in terms of people losing jobs. The government has a sense of what needs to be done, unlike last year where it was more of a trial-and-error basis. They already have a playbook, so to speak. Hence, I still hold the view that the worst is over,” he tells The Edge.

He maintains his projection that the sector’s earnings will grow 21% this year, after an expected decline of 27% last year. Modification losses, which banks incurred in hefty amounts in 2Q2020 as a result of a blanket loan repayment moratorium, will not be repeated this year, he notes. Loan growth is seen at 3.5% to 4% this year, the same as expected for last year.

HLIB Research’s “overweight” rating on the banking sector also remains, with its top pick being RHB Bank Bhd.

Analysts do not expect a return of a blanket loan repayment moratorium for individual and SME borrowers. They say this is because banks are already offering targeted repayment assistance until June 30 to those who need it. Lenders started doing this upon the end of last year’s six-month moratorium in September.

“The existing initiatives already seem adequate, even for the B40 and M40 segments, so, if anything at all, perhaps the June 30 deadline may be extended,” a senior banking analyst who declined to be named tells The Edge.

“As to whether there will be any new initiatives, that really depends on how long the MCO lasts. If it extends to one month, two months, then the conversation around this might change,” he adds.

The current thinking is that the banks’ loan loss provisions this year may not be as high even with MCO 2.0, as most lenders have already proactively made heavy pre-emptive provisions in recent quarters. In 3QFY2020, banks’ pre-emptive provisioning increased RM2.3 billion or 9.3% from the preceding quarter, bringing the industry’s total provisions to RM27.1 billion.

“It makes me wonder if some banks will take the opportunity to make even more pre-emptive provisions in 4Q2020. They can justify this by pointing to MCO 2.0 ... it will help to keep the investment thesis of lower credit costs in 2021 still relevant,” the analyst remarks.

Commenting on the increasing number of banks — including Malayan Banking Bhd, RHB Bank and Bank Islam Malaysia Bhd — that have recently started offering monetary donations and/or payment relief to flood victims, the analyst says this is unlikely to have an impact on earnings.

“It’s not the first time some of the banks are doing this and these are not chunky loans,” he points out.

Meanwhile, there were signs late last year that businesses are improving in terms of their payments to creditors. According to Experian Information Services Malaysia, the industry debts turned cash indicator (i-DTC), which measures the average number of days companies take to pay their creditors after the invoice date, improved from a high of 88 days in June to 74 days in November — which is comparable to pre-Covid times — and 76 days in December (see chart).

Its study was based on more than 500,000 payment records on business corporations and SMEs across the construction, hospitality and food/beverage, manufacturing, retail, services, transportation and storage as well as wholesale industries.

“Industries on the whole are still able to maintain [their] payment for now due largely to ongoing government measures. However, the increase of two days in December 2020 may be indicative of a start of a reversion to cash preservation strategies by businesses as some Malaysia localities impose stricter movement controls,” it said in a press release last week.

The Bursa Malaysia Financial Services Index, which hit a one-year peak of 16,046.13 on Dec 11 last year, closed at 15,031.38 last Friday, up 0.2% from a week earlier. In comparison, the stock market’s benchmark FBM KLCI shed 0.4% over the week to settle at 1,627.01 last Friday.

Save by subscribing to us for your print and/or digital copy.

P/S: The Edge is also available on Apple's AppStore and Androids' Google Play.