A testing time for banks

This article first appeared in The Edge Malaysia Weekly, on February 17, 2020 - February 23, 2020.

Fuda: If the situation returns to normal in the coming weeks, the impact should be minimal. In a prolonged scenario, there will undoubtedly be an impact on some households and SMEs. Photo by Hong Leong Bank

Khairussaleh: Key is running through a series of stress tests and being proactive in assessing our lending portfolio. Photo by Suhaimi Yusuf/The Edge

Sulaiman: While the banking sector will continue to face uncertainties, margin pressure, modest loan growth and tame capital market activities, the sector is expected to remain well capitalised. Photo by Haris Hassan/The Edge

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THE shares of more than 60% of local banks are currently trading below book value, a plight last seen in 1997 and 2008.

Thinning margins and earnings erosion today, coupled with slowing credit and economic growth, have now been exacerbated by the COVID-19 outbreak and its impact on economic activities.

At end-2008, when the world was reeling from the global financial crisis — the most recent to shake global markets — most banking stocks fell below book value.

Mapping the valuation of banks, the worst in terms of falling stock prices was seen during the 1997/98 Asian financial crisis.

According to Bloomberg data, at the time (end-1997), the largest banking group — Malayan Banking Bhd — was trading at 0.5 times price-to-book; CIMB Group Holdings Bhd, 0.25 times; Public Bank Bhd, 0.3 times; RHB Bank Bhd, 0.5 times; Hong Leong Bank Bhd, 0.5 times; and AMMB Holdings Bhd (AmBank), 0.3 times.

Banking analysts believe banks today are much better prepared to weather a crisis.

“Banks are in a better position today compared with more than 20 years ago. Lessons were learnt — they are much more prepared and well capitalised. The main thing to watch out for under the COVID-19 situation is the impact on the banks’ earnings and asset quality,” says a banking analyst with a foreign research house.

“One concern that people have when it comes to banks is the impact on their earnings should the government cut rates. Remember, during the SARS (severe acute respiratory syndrome) outbreak, Bank Negara [Malaysia] cut rates by 50 basis points and that impacted the banks’ earnings,” he adds, in reference to a remark last week by central bank governor Datuk Nor Shamsiah Mohd Yunus that there is still room for a rate cut.

Her observation prompted a selldown in banking stocks to a one-year low.

AmBank Group CEO Datuk Sulaiman Mohd Tahir believes the pre-emptive overnight policy rate (OPR) cut of 25 bps to 2.75% on Jan 22 has already provided a good enough buffer against current challenges.

“In addition, we expect an announcement pertaining to the government’s stimulus package to provide support to the affected industries and businesses. Ultimately, it will depend on the severity of the COVID-19 impact on the domestic economy as well as external factors,” he says.

RHB Banking Group group managing director Datuk Khairussaleh Ramli points to moderating global growth as a theme affecting not just Malaysia but also the region.

“Relative to peer Asian countries, Malaysia still has room for monetary easing as inflation is still benign. In this regard, prospects of further OPR cuts may affect the profitability of banks. However, the Malaysian banking sector remains well capitalised with ample liquidity in the system,” he says.

“Key is running through a series of stress tests and being proactive in assessing our lending portfolio and, where necessary and appropriate, extend assistance to deserving clients. In addition, this volatility and downward interest rate trend presents an opportunity for banks to be active in the fixed income space.”

Public Bank opines that although a cut in interest rate is likely to put some pressure on banks’ net interest margins, it will help the economy and provide business opportunities to the banking industry.

Nor Shamsiah’s comments have led many to ponder the potential quantum and number of rate cuts this year.

“Going by history, Bank Negara cuts interest rates by 25 bps each time. Is that enough in today’s scenario or will it cut more?” asks an analyst.


Banks well capitalised and prepared to weather storm

Prior to the COVID-19 outbreak, impaired loans had ballooned to a multi-year high of over RM28 billion last September and November, before dipping to RM26.7 billion in December.

As the rise in impaired loans tracks total loans in the banking system, bankers and analysts maintain that the increase in bad loans is not alarming, given the percentage to total loans continues to be low.

“The industry’s total gross impaired loan ratio dropped slightly to 1.5% [last December] while the net impaired loan ratio fell to 0.96%, compared with 1.02% in the previous month. Moreover, total provisions for the sector declined 4.4% month on month or RM1.1 billion. With the decline in impaired loans, the sector’s loan loss cover rose to 89.6%,” says Sulaiman.

He expects asset quality in the industry to be impacted by the COVID-19 epidemic, but believes it is manageable as the banking industry’s impaired loans are on a low base.

“While the banking sector will continue to face uncertainties, margin pressure, modest loan growth and tame capital market activities, the sector is expected to remain well capitalised ... it should continue to display resilience in terms of asset quality. At the same time, efforts to contain overhead costs will remain,” he says.

Hong Leong Bank group managing director and CEO Domenic Fuda says it is difficult to determine the extent of the impact on impaired loans at this stage. “If the situation returns to normal in the coming weeks, the impact should be minimal. In a prolonged scenario, there will undoubtedly be an impact on some households and SMEs (small and medium enterprises).”

Khairussaleh asserts that the RHB group has always exercised prudence in managing its asset quality. “It’s still too early to see the impact, but we are monitoring segments that may be vulnerable to the COVID-19 outbreak. Restructuring and rescheduling are avenues available to assist the affected clients in this time of need.”

Public Bank notes that given the stable and resilient asset quality as well as healthy loan loss coverage of the domestic banking system, it expects the banking industry to manage and navigate through any potential credit losses.

All four banks have rolled out initiatives to help their customers tide over the epidemic, which involves restructuring and rescheduling of loans on a case-by-case basis.

Other banks have also done the same, following Bank Negara’s message over a week ago urging them to assist their clients during this difficult time.

“There are 7% to 7.5% of total loans in the banking system that are related to sectors that can be hit by this crisis. So, that is another thing banks will be watching closely,” says the banking analyst with a foreign house.

He believes banks are facing one of the most testing times in decades, but he is confident that they will rise to the challenge.


Banks are confident

Khairussaleh says the RHB group remained well capitalised with Common Equity Tier-1 (CET 1) and total capital ratio of 16.46% and 18.96% respectively as at Sept 30, 2019.

Hong Leong Bank’s Fuda says, “No matter what the challenges are, we have the experience and capital to work through periods of heightened challenges. We’ll continue to manage the business so that it is well positioned to help our clients in times of need and, together with them, we’ll see this period through, just like we did during the SARS outbreak and other crises over the years.”

Hong Leong Bank’s capital position remained robust, with CET 1 and total capital ratios at 12.8% and 15.7% respectively as at Sept 30, 2019. In the same period, Public Bank’s ratios were 13.12% (CET 1) and 16.5% (total capital).

The CET 1 ratio of AmBank’s financial holding company improved to 12.6% on Sept 30, 2019, from 11.9% on March 30, 2019. Its total capital ratio rose to 16.1% from 15.4% in the same period.

Sulaiman says the group was not impacted by the SARS epidemic and has “a strong business continuity plan in place that helps us in managing our business in times like this”.

Public Bank says it was not significantly impacted by the SARS outbreak in 2003. “With the sound credit recovery management, coupled with the containment of the SARS outbreak and a strong recovery in Malaysia in 2003, the group had weathered the challenges well. The group achieved a 17% growth in its pre-tax profit that year,” it says.

It adds that it is monitoring the COVID-19 situation closely. “Notwithstanding its strong asset quality, the group has been proactively monitoring and engaging customers who are affected and may be affected by the outbreak in repaying their loans.”

Public Bank had the lowest impaired loan ratio in the sector, at 0.52%, at end-September last year.

Moody’s believes that if the epidemic-related disruption is short-lived, there will be limited impact on Asia-Pacific economies and banks.

However, it says a prolonged disruption will hurt the banks through various channels, including travel and tourism, private consumption, supply chains and commodities.

“They mostly involve macro-economic consequences that can take many quarters to materialise, but some events, such as a decline in commodity prices, can have a rapid knock-on effect on banks,” Moody’s says in a Feb 12 report.

“If disruptions from the outbreak worsen, Asia-Pacific governments and regulators will take measures to support their economies, such as fiscal stimulus, monetary policy easing, removal of some macroprudential measures, forbearance and direct support to affected industries/borrowers. These actions will somewhat mitigate the negative impact on the banks.”

The Malaysian government is expected to announce details of a stimulus plan on Feb 27.

All eyes will be on what it will entail and whether it will be enough to soften the COVID-19 blow to businesses and, thereby, banks, which are proxies for the economy.


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