BNM has released its Financial Stability Review (FSR) report for 1HCY24. The banking sector has produced sequential improvements since the last review on the back of supportive economic macro. For now, BNM’s stance to keep OPR decisions isolated from regional monetary policies continues to bode well for markets. Previous concerns on forex driven inflationary pressures look to subside following the recent spike in MYR’s strength, albeit we reckon hedges may delay its full impact into CY25 only.

Maintain OVERWEIGHT on the sector in lieu of valuations to be driven further, spurred by a return of foreign investors back into Malaysian banks. For our top picks, we find opportunities in the laggards, albeit high-quality names being: (i) PBBANK (OP, TP: RM5.10), (ii) HLBANK (OP, TP: RM27.40), and (iii) RHBBANK (OP, TP: RM7.55) which holds strong regard as a dividend pick (c.7% yield), especially with asset quality issues resolved.

Tailwinds outweigh headwinds. 1HCY24 was well-supported with GDP growth of 5.0% lending support to income and employment prospects. This should spill onto 2HCY24 with thanks to infrastructure projects and foreign investments into the country. We view the appreciation of the MYR from RM4.70/USD in June 2024 to RM4.20/USD in Oct 2024 favourably with the cheapening of imports costs and foreign-denominated lending. That said, we received no indication that BNM will fine tune its headline inflation target of 2.0%-3.5%, perhaps as fundamental improvements may require it to pan out in a longer-term.

Sector still held high. Thanks to the above, the demand for loans is expected to remain bouyant with liquidity still appearing ample as at June 2024 LCR of 166% (Dec 2023: 161%). Credit risks are also a waning concern as we saw industry GIL hovering at a historical low of 1.6% (Dec 2023: 1.7%, Jun 2023: 1.7%) with signs of further improvement as repayments and debt servicing appearing in good shape. Meanwhile, 1HFY24 credit cost of 13 bps is below a 14 bps pre-pandemic average, suggesting that conditions have normalised.

With regards to monetary policy, BNM will likely continue to make OPR decisions independent from regional markets due to differing inflationary pressures and economic trajectory. We take the view of OPR remaining stable at 3% throughout CY25 with considerations for changes to require data-driven findings to quell higher-than-expected inflation from the spillover of targeted fuel subsidies and input costs remaining floaty.

Households in good shape. Jun 2024’s debt-to-GDP ratio came in at 83.8% (Dec 2023: 84.2%, Jun 2023: 81.9%) and reflects sustained appetite of loans which is supported by higher income. Residential properties remain the lion’s share of total debt (61.0%) and would be largely collateralised, providing buffers to the financial system in the event of unsavory downturns. We gathered that there is a bigger proportion of debtors operating in the higher income group of >RM10k per month at 39.1% of total financing (Dec 2023: 37.6%) which further supports repayability. We opine the banks are applying better confidence in the household space, evident by the increase in housing loan approval rates to 76.9% (Dec 2023: 75.7%).

Businesses meanwhile still have concerns. We view operating conditions to be fully back to normalcy, as we observed fewer firms-at-risk within the hospitality, mining and construction sectors. That said, there appears to be pain points experienced by wholesale and retail accounts, possibly due to higher import costs which we believe will taper down albeit more meaningfully into CY25. On a brighter note, an increase in industry interest coverage ratio of 6.2x (Dec 2023: 5.8x; Jun 2023: 5.7x) paints lower repayment risks for businesses, particularly with past hikes in interest costs put behind us. With regards to the implementation of Basel III’s Standardised Approach, BNM believes its adoption could lead to a reduction in credit RWA for the banks of up to 1.45%. Through our qualitative assessments, the freed up capital could translate to higher dividends paid out in the tune of <1% additional yield.

Overall, our review of 1HFY24 FSR upholds the resiliency of our banking space. These factors above will support banking corporates with regards to credit risks, leaving them more room to optimise NIMs and cost efficiency. Most banks have progressively written back their pandemic provision and narrowed their macro buffers, implying that we may see fewer extraordinary asset risks. While BNM did not provide a refresh to its stress test parameters, its inputs could appear as even more far-reaching given our stronger fundamentals. Despite this, assuming the worst is to materialise, we still take comfort that our highly capitalised banking system could sufficiently absord shocks from the market (refer to 2HCY23’s Stress Test Exercise). Seperately, banks are also on the lookout for climate-related risks (i.e. flooding) and have applied management overlays. On that note, we have previously explored the flood risk in our ESG report on 23 Sep 2024 titled: “UrbanMetry: Understanding Floods Through Big Data”.

Maintain OVERWEIGHT on the banking sector. Market tailwinds (i.e. persistent loans growth and GDP, better margin retention) are expected to continue outweighing industry headwinds (i.e. inflationary pressures, weaker MYR), which we believe may lead to fewer challenges to the sector’s resiliency. For our top picks, we continue to believe that laggards could see the greatest appreciation, being: (i) PBBANK, (ii) HLBANK, and (iii) RHBBANK. Commonly, these banks reflect foreign shareholding levels firmly below recent peak (see Exhibit 4). With regards to PBBANK and HLBANK, their leading asset quality (GIL <1.0%) offer firm cushion against the potential degradation in the industry as risk appetite expands with better economic prospects. Meanwhile, RHBBANK offers leading dividend yields (c.7%) which could attract yield seekers in spite of modest loans growth targets (4%-5%), suggesting the possibility of greater upside should they be able to leverage on the same wider economic growth.

Source: Kenanga Research - 7 Oct 2024