Singapore Banks' 1Q Earnings Beats Camouflage Underlying Risks

By Saurabh Chaturvedi Features Dow Jones Newswires

First-quarter profits for Singapore's major banks have topped expectations, helping propel their shares to two-year highs, but investors still have reasons to be cautious.

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Concerns surrounding the city's state's main local banks -- DBS Group Holdings Ltd. (D05.SG), United Overseas Bank Ltd. (U11.SG) and Oversea-Chinese Banking Corp. (O39.SG) -- center around weakness in their exposure to the oil-services sector, lackluster loan demand and their reduced ability to absorb more bad debt.

Some analysts said first-quarter earnings were boosted by revenue growth from less-sustainable sources such as non-interest income which depends on market activity.

A spate of corporate bankruptcies related to the offshore oil-and-gas industry led to concerns about Singapore banks' asset quality last year. The bankruptcies capped their stocks for most of 2016 before prices rallied at the end of the year thanks to higher oil prices and a U.S. interest rate increase.

The market has factored in the "pain from oil-and-gas impacts," said Bernstein managing director Kevin Kwek, who added that it may be time to turn medium-term positive on the banking sector.

But Singapore-listed shipping trust Rickmers Maritime's (B1ZU.SG) decision last month to wind down operations reignited concerns about banks' exposure to the oil sector and potential for more bad debt.

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Jeremy Teong, an analyst with Phillip Securities, said it is too soon to say the worst is over for Singapore banks and their energy-related exposure.

The three banks' bad-debt ratios were little changed in the first quarter from the end of 2016, but were higher than a year earlier. But some analysts focused on the lenders' coverage ratio for nonperforming loans, which shows how much money has been set aside for existing and future bad debts.

A coverage ratio of 100% means only existing bad loans are covered, with no buffer for future bad debts. At that level, "any shocks to quality of loans will have to be taken directly" from the bottom line, said Mr. Teong. "I think investors should be more concerned with the current low-bad-loans coverage ratio."

The figure for DBS, the biggest Singapore bank by assets, was 103% last quarter, compared with 134% a year earlier. It has fallen to 101% from 113% at OCBC and to 118% from 133% for UOB.

While the oil-and-gas sector accounts for about 5% of the banks' loan books, more than 60% of their bad debts the past year have come from companies exposed to the oil sector.

Though crude oil prices have nearly doubled from early 2016 lows, oil-and-gas explorers' capital spending has yet to significantly improve after being slashed when oil prices tumbled from mid-2014. Energy-sector troubles hurt banks' asset quality as firms supporting oil explorers ran into trouble. And there is no certainty that oil prices--boosted in recent months by an output-cut agreement by major producers--will continue rising.

For their part, the banks are cautious about their outlooks: DBS said the bank remains vigilant, OCBC said it was watchful for headwinds and UOB noted the need to remain disciplined.

Still, this year's 15% to 20% stock gains suggests at least some investors are upbeat. Analysts say reasons to be optimistic include the potential for an improvement in banks' net interest margins, mainly on the prospect of further U.S. interest-rate increases which tend to lift Singapore's benchmark rates. Lending margins globally have been depressed for years because of the post-crisis low-rate environment.

Also, from the second half of 2016 Singapore banks proactively took hair cuts on some loans to clean up their books, said Harsh Wardhan Modi, an analyst at J.P. Morgan. Mr. Modi recently turned optimistic on the lenders' growth prospects but noted that with the banks' recent stock gains, they now look fairly valued.

Write to Saurabh Chaturvedi at saurabh.chaturvedi@wsj.com

(END) Dow Jones Newswires

May 12, 2017 02:44 ET (06:44 GMT)