OCBC share price sank on release of 2Q16 results

OCBC share price dropped from a high of $9.00 to $8.35 upon the release of poor 2Q16 results. Second quarter earnings fell a whopping 15% year-on-year due to lower insurance income from subsidiary Great Eastern Holding (GEH).

For OCBC, the insurance segment, driven by GEH, represents one of the most profitable income sources. Operating profits from insurance segment was $120 million, the third highest among OCBC’s business segments. The earning contributions from GEH fell 66% due to the absence of a $105 million gain from the sale of an asset in 2Q15. However, GEH’s underlying insurance business actually performed well in this quarter, with new sales increased by 23%, led by growth across distribution channels in Singapore and Malaysia. Due to the unrealized mark-to-market losses in GEH’s equity and bond investments, profit from GEH’s life insurance recorded a dismal 19% drop.

Apart from insurance segment, OCBC also witnessed poor performance in its “bread and butter” segment – corporate loans. Like all commercial banks, OCBC derived its major income from loans made to corporates and public sector. For second quarter, net interest income declined 2% to $1.26 billion from $1.28 billion a year ago. Customer loan balances decreased 2% due to lower trade loans and reduced offshore borrowings from Chinese customers. These offset the increases seen in consumer loans and loans to the construction sector.

The terrible outlook in the oil and gas sector continues to weigh in on OCBC. The non-performing loans (NPL) ratio increased to 1.1% from 1.0% the previous quarter. This is a substantial increase from 0.7% a year ago. Under the current challenging climate, OCBC downgrades a number of corporate accounts in this sector and also restructured their loan repayment terms.

All eyes are on the oil and gas sector now, following Swiber’ shock announcement of liquidation two weeks ago. The market was stunned by the size of DBS’s $700 million loan to Swiber and according to DBS, only half of the amount can be expected to recover if the company did wind up. Although Swiber subsequently did an about-turn and filed for judicial management instead, the latest developments do not bode well for the oil and gas sector. This sector traditionally is capital-intensive and local banks generally are exposed to many of such companies. So even though OCBC is not affected by the implosion of Swiber, it does not mean that the bank is safe.

The only bright spot for OCBC is the outstanding performance of its Global Consumer/Private Banking Segment, which recorded operating profit of $273 million for second quarter. This was 3% higher than a year ago and increased by 8% from previous quarter. This segment has grown significantly to become OCBC’s second largest segment for the second quarter, in terms of operating profits. In time to come, this segment will continue to grow with OCBC’s acquisition of Barclays Wealth Management business earlier this year.

I am not vested in OCBC at this moment but I continue to like this bank for its strong capital position.  The loans-to-deposit ratio was 82.2% compared to 84.3% a year ago. The current and savings deposits to total non-banks deposits ratio stands at 49.3%, higher than 46.0% a year ago. This means that OCBC continues to attract depositors with its strong brand in Singapore. After all it has been ranked among the world’s five strongest banks by Bloomberg Markets for 5 consecutive years since 2011.

For the record, OCBC’s Common Equity Tier 1 Capital adequacy ratio (“CAR”), Tier 1 CAR and Total CAR as at 30 June 2016, were 14.9%, 15.5% and 17.5% respectively. These ratios were well above the regulatory minima of 6.5%, 8% and 10% respectively.

OCBC declared an interim dividend of 18 cents per share for the first half of 2016. This is similar to the 18 cents interim dividend paid in 1H15. Investors who build their portfolios based on dividends may need to be cautious if they are interested in buying OCBC shares. The current headwinds in the oil and gas sector create far too much uncertainties for investors to enter bank stocks at this juncture and it may not be wise to buy banks stocks for the sake of dividends. The potential drop in share price may not offset the dividends collected.

Nonetheless, one thing I am confident is that OCBC will definitely emerge from this storm in good shape because of its well-diversified portfolio in Great Eastern Holding, Wing Hang Bank, Wealth Management and its multi-billion property assets. There is still a lot of leg-room for the price to fall and I will only enter OCBC at $6.00 per share.

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Magically yours,

SG Wealth Builder