Singapore Banks - Probability-of-default is at the high end

Pillar 3 disclosures by the Singapore banks show the probability-of-default on corporate/SME exposures is at the high-end, especially for DBS and OCBC. Credit risk mitigation, on the other hand, does not lower risks to the same level as the likes of StanChart. Together with worsening macro data (April bankruptcies and liquidations are at record highs), this does not bode well for asset quality. Hence expect credit charges to rise further, while ROEs will remain depressed. Maintain UNDERWEIGHT.

Probability-of-default is at the high end
- All three Singapore banks have provided Pillar 3 disclosure for the first time
- Other bank exposures and mortgage exposures are benign coming in at the lowest probability of default bucket for all three
- However, on corporate/SME exposure a dichotomy exists, with UOB having 82% of exposure in the lower risk bucket, while this is 40% and 35% for DBS and OCBC
- Their aggressive expansion in to SME lending during the boom years is a likely cause here. Recall OCBC grew SME customers by 15% YoY each in FY07 and FY08

Risk mitigation good, but not great
- Credit risk mitigation (CRM) lowers risk for assets under the foundation IRB category by 5-9% for the three banks
- Similarly, risks for assets under the standard approach are lowered by 4-11%
- While good, there is significant room for improvement to catch up with the likes of StanChart who is seen as far more aggressive than the Sing banks
- We believe this spells a more conservative lending attitude from the Singapore banks going forward

NPL cycle set to get worse
- The NPL cycle has only just started and hence will get worse as the cycle progresses; hence rising credit charges (143ps in FY09)
- Bankruptcies have risen 38% YoY in April; the worst since the data series began
- Pawn broker loans are up 16% MoM in February signifying rising levels of indebtedness away from the formal banking sector; this is a concern

Stay UNDERWEIGHT
- The sector is now at 1.4x 12-month forward PB vs. 1.7x long term, but long term ROE was 11%; we expect just 8.5% for FY09-11CL
- UOB is our top pick for the sector, based on stronger asset quality vis-à-vis peers. SELL OCBC given low provisioning levels.

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