DBS achieved a new income record in Q1 2016 when total income rose 5% to S$2.87 billion. This was remarkable as there was considerable risk aversion during the quarter. Revenue was boosted by higher local interest rates, as net interest income grew 8% to S$1.83 billion. Non-interest income was also stable.
One of the bright spots is that DBS’ asset quality remains solid. This could reflect overblown concerns over credit quality arising from the embattled energy sector, and from a slowing China economy. Moreover, the recovery in oil prices could help to stabilise this loan portfolio.
But to be clear, asset quality will likely still deteriorate because of slowing economic and trade growth in the region as well as persistent vulnerabilities in the energy sector despite higher oil prices. Moody’s has recently revised their outlook for Singapore’s banking system over the next 12-18 months from stable to negative. The rating agency remained concerned about the weaker operating conditions for Singapore banks, given their high exposure to energy-related industries and domestic firms with high levels of debt.
In addition, higher credit costs and sluggish loan growth could pressure banks’ profitability. Overall, the bigger challenge for DBS is income generation, not so much of asset quality.
In non-interest income, DBS managed to grow their fee income on the back of their rising wealth management businesses. New bancassurance fees from the Manulife tie-up also contributed.
While there is still potential for DBS to be an earnings beat in Q2, helped by an active debt capital market and bancassurance fees, the outlook continues to be challenging.
Much of the future growth in net interest income rides on the Singapore Interbank Offer Rate (SIBOR). For now, the Federal Reserve may set the stage for the next rate increase which may be as soon as September, if economic data holds up in the coming months. If the Fed fund rate rises, and SIBOR follows, then we could see loan yield increases for Singapore banks. DBS stands to benefit the most from higher interest rates as it has the most favourable funding profile among the three local banks.
Trade and Technicals
Based on historical earnings data, an earnings surprise is not a general predictor of immediate share price movement. One reason for the disconnect between earnings and price may be that the bank’s resilience did not soothe investors’ concern, as slowing economic growth raises fears. It means that you are buying into Singapore’s macro challenges by owning the stock.
While Singapore’s economy expanded 2.2% in the second quarter, boosted by manufacturing activity, the recovery is likely to be tentative. We are also not certain whether there will be delayed impact of the Brexit vote on global trade, which will affect Singapore. Furthermore, we could see tougher compliance rules amid a money laundering scandal. DBS was found by Singapore authorities to have lapses in anti-money laundering (AML) controls, and may be subjected to regulatory action.
The stock fell in February to the lowest since June 2012, but managed to recover a significant amount of the January’s slump. However, it struggled against the S$16 resistance from March to June before overcoming it in mid July. A great earnings estimate may help it push higher towards S$17-18, although investors may simply shrug off earnings surprise from what we have observed on recent earnings history.