Underpinned by strong performance from its wealth management and profit from life insurance, OCBC Bank delivered an excellent 3Q16 results that beat market estimates. The oldest bank in Singapore reported a net profit after tax of S$943 million for the third quarter of 2016. This was 5% above S$902 million a year ago and 6% above S$885 million the previous quarter.
A deeper review of OCBC’s financial results revealed more interesting insights. Net interest income of S$1.23 billion was 6% lower as compared to S$1.32 billion the year before, driven by lower loan volumes and net interest margin. As at 30 September 2016, customer loans were S$209 billion or 2% lower than the year before, led by a decline in trade-related lending to Greater China, which offset an increase in housing loans and other consumer loans.
Net interest income is the difference between the revenues derived from interest-bearing assets (customer loans) and the cost of servicing (interest-burdened) liabilities. Thus if the US Fed interest rates increased and induced the local banks to heighten the bank saving rates, OCBC may be negatively impacted because of the lower margin from net interest income. Also, the current slowing market results in lower loan volumes, leading to lower net interest income for OCBC.
For 3Q16, OCBC was rescued by its wealth management unit, which contributed 28% of the income for the quarter. Its life assurance business unit, Great Eastern also helped to boost performance. Profit from Great Eastern was S$164 million, higher than S$62 million in 3Q15.
In terms of asset quality, OCBC continues to be stressed by the market roil caused by the ailing oil and gas sector. Non-performing assets (“NPAs”) as at 30 September 2016 were S$2.59 billion as compared to S$2.49 billion a quarter ago and S$1.93 billion the previous year. NPAs have been rising, albeit steadily, indicating the need for management to proactively manage this segment. Net allowances for loans and other assets were S$166 million for the quarter, as compared to S$88 million the previous quarter and S$150 million a year ago. With the current weak market condition, OCBC is expected to make more provisions for loan allowances in the next few quarters.
Nevertheless, OCBC continues to be well-capitalized and investors should not be worried about the liquidity of this bank. As at 30 September 2016, customer loans and deposits were S$209 billion and S$247 billion respectively. The loans-to-deposit ratio was 83.1% as compared to 83.5% a year ago. The Group’s Common Equity Tier 1 capital adequacy ratio (“CAR”), Tier 1 CAR and Total CAR as at 30 September 2016, were 15.1%, 15.6% and 17.6% respectively. Based on Basel III transitional arrangements, these ratios were well above the respective regulatory minima of 6.5%, 8% and 10%.
The stellar quarter report did not help to stimulate its share price, which has been sluggish in recent months. While it has not reached the $7.45 level earlier this year, there is definitely room for more correction. Being a bank stock, this is a normal cycle because bank’s performance is sensitive to the economic condition. The question now is determining the level attractive enough to enter this counter. And valuing this bank stock is not easy because OCBC’s assets span across a large spectrum consisting of wealth management, insurance, property, securities, corporate and consumer banking.
Among the big three local banks, OCBC certainly positions itself well by being very well capitalized. However, being financially strong and stable will not help OCBC to capture more market share. In driving growth, OCBC Wing Hang and the wealth management unit will play a key role.
In 3Q16, Great Eastern contributed 14% of the operating profit but the Singapore market for insurance business is very small and very difficult to scale. With OCBC Wing Hang, OCBC can penetrate the huge China market. For the same quarter, OCBC Wing Hang contributed only 8% to OCBC’s operating profit and year-on-year profit from this subsidiary has declined 4% in third quarter due to the slowing China market. Nonetheless, the situation will change with the recent consolidation of OCBC Wing Hang business activities in China and Hong Kong.
Another potential game-changer could be OCBC’s wealth management unit. In April, OCBC’s subsidiary, Bank of Singapore, beat DBS Bank to acquire Barclay’s Asian private banking unit for US$320 million. It is estimated that the asset under management of Barclays was US$18.3 billion and the deal would enlarge OCBC subsidiary’s asset under management by 33.3%. With wealth management, OCBC is able to scale the business and increase revenue from the management fees. Thus, the current weak market condition may provide interesting opportunities for OCBC to acquire more foreign banks’ private banking portfolio.
In one of my previous analysis on OCBC, I set my entry price at $6.00. My target entry price for OCBC remains the same.
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