DBS - May He Be The Right Choice

DBS has appointed Piyush Gupta as its new CEO. (It is no surprise that none of the oft-touted local candidates was the chosen one.)

Gupta, a Singapore PR, is a 27-year veteran in the banking industry, of which 8 years were spent here, briefly as Citi’s Country Head. He was also country head for Malaysia (2002-2007) and Indonesia (1998-2000). He is currently CEO for Citigroup’s South East Asia Pacific, including Australia, New Zealand and Guam.

We do not expect the market to react materially one way or the other, to Gupta’s appointment. (DBS’ share price had recovered to around $12.90 yesterday before the announcement, from $12.64 the day before. It hit $13 but ended at $12.72.)

All his predecessors over the last 10 years - from John Olds, P Paillart, Jack Tai, to the late Richard Stanley were veteran bankers, from JP Morgan and Citibank, and with different expertise, eg Jack Tai, an investment banker, when the Bank had IB ambitions, and with a good grounding in optimal capital structure; Stanley for his intimate knowledge of Hong Kong / China, particularly important with the rising importance of China, and after the acquisition of Dao Heng Bank 8 years ago, and which has yet to produce the “desired” returns. (Gupta unfortunately lacks this exposure, even though he had spent some time in HK.)

After all the hustle and bustle, it will be down to execution, to maintain DBS as one of the strongest financial institutions in the region. We maintain BUY.

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DBS - Buy: New Target S$15.50; Raising EPS Estimates 2%-18%

Target S$15.50 (1.46x '09E P/B): DBS has retraced 10% from recent highs on concerns of sharply rising NPLs. But DBS' provisions-hit 2Q09 ROAE of 9.3% belies record pre-provision operating profits, and a PPOP ROAA of 1.73%, back to the 2007 peak. The P&L provisions cycle should start to normalize over 2010E for a 2011E ROAE of 12%. Our 12-month target has been reset to DBS' mid-cycle P/B multiple of 1.46x.

2Q09 pre-provision profit a record S$1.16bn: DBS' 2Q09 PPOP is up 30% vs. 2Q07 (the last economic cycle peak). Loan growth +29% over 2 years drove 8% net interest income growth despite NIM pressure from low S$ SIBOR, while basic bank fees remained resilient. Markets-related income has been a key boost to 2Q09 revenues, but operating costs are 4% lower than in 2Q07 despite a much larger balance sheet, for a 2Q09 cost-income ratio of just 35%.

2Q09 NPLs, +36%qoq, the area of concern: NPLs rose to S$3.7bn on a S$1bn rise in "rest of world" (Middle East and shipping) NPLs, but as "substandard" NPLs, mgmt do not expect large losses, stressing that 38% of all NPLs are fully current. We expect NPLs to peak by end-2010E, and provisions to return to "normalized" levels by 2011E, markets pricing in normalization ahead of that.

Raising 2009-11E EPS estimates 2-18%: We now project profit growth of +25% in '10E and +22% in '11E on [1] 3-7% loan growth; [2] modest NIM improvement to 210bps; [3] PPOP ROAA of 1.7%, [2] provisions falling from 133bps in '09E to 50bps in'11E. Our 2009E profit forecast of S$2bn remains 12% above Bloomberg consensus estimates.

DBS - Competitive advantage from strong deposit franchise

With huge base of savings deposits and largest exposure to the interbank market, DBS is prime beneficiary of recovery to positive GDP growth and higher SIBOR. Well positioned to expand in home base Singapore. Maintain BUY.

DBS Group Holdings (DBS) is a high-beta play on the eventual economic recovery, which is usually accompanied by higher interest rates. High-beta play on eventual economic recovery. DBS derives the bulk of its funding from savings accounts (DBS: 42.5% of customers’ deposits, OCBC: 19.2% and UOB: 22.0%), a stable and low-cost source of funding. It was the largest lender with S$28.3b parked in the interbank market as at Mar 09 (OCBC: S$14.5b and UOB: S$12.3b), equivalent to 10.5% of total assets. Current earnings have already factored in a depressed SIBOR. Net interest margin (NIM) will rebound when Singapore recovers to positive GDP growth, bringing about a higher SIBOR.

Streamlining for greater efficiency. DBS has cut headcount, streamlined its organisational structure and “de-risked” its treasury operations. There is latent growth potential in Singapore as the bank’s Singapore-dollar loan/deposit ratio (LDR) was only 57.4% as at Mar 09. It is a leader in providing financial services to large corporate and institutional clients and could expand market share in SME and consumer lending. DBS has instilled discipline in cost management and its cost/income ratio fell from 44.3% in 2006 to 38.4% in 1Q09.

Conservative classification of NPLs. DBS adopts a conservative approach in recognising non-performing loans (NPL) and taking provisions early. About 34.2% of its NPLs are not overdue (still current in interest and principal) compared with 16.7% for OCBC and 17.1% for UOB. This indicates that DBS is more stringent and conservative in the classification of NPLs.

We have raised our assumptions for loans growth to 7.8% for 2009 (previous: 6.4%) and 8.2% for 2010 (previous: 4.9%) to factor in increased demand from property developers and housing loans. Demand from general commerce should also improve as confidence returns, particularly in Asia. We have assumed the bank’s NPL ratio will hit 4.0% by end-10. Our earnings model has imputed allowance for credit losses of 120bp in 2009 (unchanged) and 80bp in 2010 (unchanged). We raise our 2010 net profit forecast by 3.1% to S$1,934m.
Valuation is attractive with P/B at 1.18x, the lowest among Singapore banks (OCBC: 1.47x, UOB: 1.67x). Our target price of S$14.43 is based on a P/B of 1.36x, derived from the Gordon Growth Model (ROE: 9.5%, payout ratio: 55%, required return: 8% and constant growth: 4.0%).

DBS is a high-beta play

DBS is a high-beta play on the eventual economic recovery. It derives the bulk of funding from savings accounts (DBS: 42.5%, OCBC: 19.2% and UOB: 22.0%), where cost of funds is relatively stable. It is the largest lender with S$28.3b parked in the interbank market. DBS will experience the most significant improvement in NIM when the economy recovers, which is usually accompanied by higher interest rates.

DBS focuses on organic growth in its core Singapore and Hong Kong markets. There is latent growth potential in Singapore as its Singapore-dollar loan-deposit ratio was only 57.4% as at Mar 09. DBS is a leader in providing financial services to large corporate and institutional clients and intends to expand market share in SME and consumer lending.

Valuation is attractive with a P/B ratio at 1.13x, the lowest among Singapore banks (OCBC: 1.42x and UOB: 1.52x).

DBS and POSB slash savings rates

According to media sources, DBS has slashed its deposit rates. Interest rates on the savings accounts at both DBS Bank and POSB will be trimmed by some 2.5- 12.5 bps depending on the different accounts and amount. For instance, POSB savings and passbook account holders will now be paid 0.125% (from 0.25%) for the first S$50k while DBS Savings Plus account holders will receive 0.1% for the first S$50k (vs 0.125% for the first S$3k and 0.175% for the remaining S$47k previously).

The move to slash rates to near zero is in tandem with similar cuts made by their local and foreign counterparts over the past few months. We believe the reduction will be accretive to earnings, given the Group’s large low cost deposit base. Note that CASA deposits make up around 55% of total deposits. In addition, the reduction in the deposit rates will give DBS more room to continue competing via pricing, in our opinion. Recall DBS trimmed yield on loans by close to 130 bps in FY08 compared to its peers average of 96 bps while deposit rate eased by a smaller 63 bps vs. 72 bps on average for UOB and OCBC.

We adjust our FY09/10/11 earnings forecast by 4.8/8.3/7.5% to S$1.6/2.1/2.6bn (from S$1.5/1.9/2.5bn) on the back of the increase in our NIM assumptions. Note that despite the larger decline in deposit rates, we are only imputing a 5-8bps increase in FY09-11 NIMs because we believe the impact would be muted by room for DBS to further reduce the yield on loans (although growing loans is not the Group’s primary goal amid the weak economic backdrop) and higher borrowing costs.

With that, we revise our TP from S$13.20 to S$13.80 (based on the Gordon Growth Model, assuming cost of equity of 7.5%, average ROE of 9.4% and sustainable long-term growth of 3.0% or implied PBV of 1.42x) after imputing our adjusted FY09-11 numbers. Our valuation includes the remainder of S$458mn corporate CDOs which have not been hedged or provided for.

Excluding the CDOs, we believe that DBS is valued at S$14.00. With that, we are upgrading our recommendation on DBS to Buy - premised on the potential capital gain of 20.2% from the stock’s last closing price of S$11.98. Key upside/downside risks to our fair value include: (1) better-than-expected 2Q and 3Q results, (2) potential write back on allowance for the CDOs, (3) the impact of the global recession to Singapore and Hong Kong’s trade, which will to a great extent impact GDP, (4) the impact from the downturn on both the countries’ unemployment rate, and (5) resilience of the property market as well as sustainability of property prices.

DBS: Getting a boost from better fee income

DBS has staged remarkably >100% gains. In tandem with global equity markets, the Singapore market also staged a good rally in 2Q 2009, with the STI appreciating 67% from the 2009 low in March to the recent high of 2424.52. Together with renewed wave of buying, this also benefited the banking stocks. DBS, which hit a low of S$6.42 in Mar 2009, has since recovered to a high of S$12.90, more than doubling from the low. Over the past few days, a much-need breather has entered the market and we view this correction positively. There are also some signs of market fatigue, as reflected by the decline in daily trading volume and value on the local exchange as well as the drop in market breadth (with more declining issues than advancing issues on a daily basis).

Present weakness presents trading opportunity. This has thrown up an opportunity to buy into the banking sector again. There is also a gradual shift recently to defensive stocks and DBS offers a good dividend yield of 4.1% (based on our reduced DPS estimate of 46 S cents for FY09 versus 65 S cents in FY08).

Flood of rights issues should boost its fee income. In 1Q09, we saw some capital market raising exercises locally, but the momentum gathered pace in 2Q 2009, led by several government-linked entities. We note that DBS was one of the key underwriters/managers of these issues (see exhibit 1) and we expect fee income to get a significant boost this quarter even if impairments remain high. In addition, the improvement in the equity market should also boost other fee-related income.

Upgrade to BUY. Since hitting a recent high of S$12.90, the stock has corrected and closed at S$11.20 yesterday, down 13.2%. We are maintaining our FY09 earnings estimates for now, noting that impairment charges could remain high in 2Q and 3Q, albeit lower than the 1Q level of S$437m. We are also maintaining our peg at 1.2x book and our fair value estimate of S$12.40 for now, until we see further re-rating for the sector and the market. As there is a potential upside of more than 10% from current level coupled with the estimated yield of 4.1%, we are upgrading the stock to BUY. Accumulate at current level and lower.

DBS Group - Bonanza From Rights Issues

Standing by core customers. DBS Group Holdings (DBS) has benefitted from the slew of rights issues from government-linked companies by securing the lion’s share of mandates in these fund-raising exercises. DBS is the lead manager and underwriter for CapitaLand’s and CapitaMall Trust’s rights issues launched in 1Q09 and CapitaCommercial Trust’s and Neptune Orient Lines’ rights issues launched in 2Q09. By cultivating relationships with core customers in both good and bad times, DBS is well positioned to clinch these investment banking deals when the opportunities arise.

We expect contributions from the rights issues of CapitaLand and CapitaMall Trust to be recognised in 2Q09 and that from CapitaCommercial Trust and Neptune Orient Lines to be recognised in 3Q09. We estimate net commission from investment banking to increase 67.6% qoq to S$28.5m in 2Q09 and taper off to S$19.1m in 3Q09. We fine-tune our 2009 net profit forecast by +0.5% to S$1,492m.

Maintain BUY. DBS is a high-beta play on the eventual economic recovery. Our target price of S$13.83 is based on a P/B of 1.30x and is derived from the Gordon Growth Model (ROE: 10%, payout ratio: 50%, required return: 8% and constant growth: 4%). We have rolled forward our target price based on end-10 NAV/share estimate of S$10.64.

Our target price for DBS is S$14

DBS is Singapore's largest bank by group assets (S$257bn at Dec 2008). Its primary focus is Singapore (c62% of group profit before tax) and Hong Kong (c21% of group PBT). It also has exposure to several other parts of Asia, including Thailand, Taiwan, India and Greater China. DBS is known as a corporate- and consumer-focused bank, as well as for its treasury operations.

We rate DBS Buy/Low Risk, with a target price of S$14 (from S$12). We are positive on all of the Singapore banks given our view that the Singapore economy is passing its point of worst contraction, and our strategist views that Singapore STI could recover to the 2400 level. Past market cycles suggest that banks tend to lead an STI recovery as valuations normalize from trough levels, P/E multiples expanding in anticipation of earnings recovery. DBS is typically viewed as the most operationally leveraged of its peers to economic recovery and interest rates, and conversely it has the highest operating risk to a deteriorating macroeconomic outlook.

Our target price for DBS is S$14. (1) Using a dividend discount model (DDM), assuming a 2009E net DPS of S$0.54, cost of equity of 10.9% and 7% long- term growth rate, gives a fair-value P/E of 16.6x 2009E, which when applied to our 2009E EPS of S$0.84 derives a fair value of S$14. This equates to a 2009E P/B of 1.3x (vs. 9% ROAE). We use DDM as a primary valuation tool, as we view it reflects sustainable earnings, dividend growth and excess returns relative to cost of equity, and also factors in liquidity/sentiment impact on valuations. It is also consistent with the methodology underpinning our P/E investment cycle analysis framework. (2) Using our P/E cycle analysis, which suggests an average trough-peak P/E range for the Singapore banks of 11-18x (for DBS 10.6-16.7x, average 13.6x) on one-year forward consensus estimates, our target price P/E is above the cycle mean for DBS.

We rate DBS shares Low Risk to reflect the capital strength and financial regulation of the Singapore bank sector. This is in line with our quantitative risk-rating system, which tracks 260-day historical volatility of the shares. Possible downside and upside risks to our target price include: 1) the impact of the US/global economy on Singapore and Hong Kong's domestic economy and job growth; 2) the level of short-term interest rates and shape of the yield curve (generally low S$ SIBOR and high HIBOR are negative for DBS net interest margins, and conversely); 3) changes to the asset quality position of the bank and in turn provision charges; 4) capital position and potential regional M&A; and 5) the long-term strategy and direction for the bank. These risks could cause the stock to deviate from our target price.

DBS - Rebound in non-interest income from loans related and treasury activities

Net profit of S$433m was above our forecast of S$378m.

Loans expanded 3.4% qoq and 14.8% yoy, with growth from overseas markets. Net interest margin at 1.99%, slightly lower than 2.04% in 4Q08. DBS experienced a large inflow of funds with customers' deposits up 3.2% qoq to S$130.6b. It also raised S$4b from 1-for-2 rights issues in Jan 09. Loans / deposits ratio dropped from 74.5% in 4Q08 to 72.6% in 1Q09. Margins were affected by lower Singapore interbank interest rates as addtional funds has not been fully deployed in more profitable products.

Fees & commissions rebounded 21% qoq to S$317m with growth from loans related activities and guarantees.

Boost from net trading income of S$204m coming from interest and foreign exchange activities supported by customers' flow. Gained S$106m from sale of fixed income securities.

Group NPL ratio increased from 1.5% to 2.0%, with NPL ratio for Hong Kong increased from 1.7% to 2.6%. DBS made specific provision of S$225m and general provision of S$182m, totaling 124bp.

DBS Group - Treasury rebounded; cost discipline

DBS's 1Q09 core net profit of S$456m was above our expectation (S$406m) and Street estimate (S$342m). Key positives were: 1) resilient fee income; 2) a strong rebound in treasury (even if deemed low-quality earnings); and 3) commendable cost-control. Key negative was a sharper-than-expected asset quality deterioration. DPS of 14cts was maintained in 1Q09, implying a high 68% payout. Lower dividends later this year are possible, in our opinion. We raise our FY09-11 EPS estimates by 7-24%, building in higher non-NII forecasts and lower costs. Our target price has been raised from S$11.57 (1.1x P/BV) to S$13.20 (now based on 1.25x P/BV), on raised earnings forecasts. Maintain Outperform.