The improving global economic outlook and signs of reflation should aid the banking sector, but finding investment opportunities across large cap developed market Asian banks is challenging, UBS said.
UBS analysts, led by Jonathan Mott, overlaid macro economic factors on profit forecasts by the banks, valuation across forward earnings multiples and price to book value to conclude Hong Kong banks were a good investment bet and asked clients to cut their holding of Australian lenders to below their representation in regional indices.
The UBS note assumes greater significance because the Australian major lenders form a large part of nearly every investor’s portfolio in the country.
Everyone from funds, which collectively manage $2.3 trillion, to institutional investors hold Australian banks in their portfolios for their high dividends and profitability.
The Australian banks have benefited from a strong Australian economy which is now in its 26th consecutive year of expansion. While this has provided a large tailwind there are a number of very worrying clouds on the horizon.
The recent price correction has removed some of the extreme valuation stretch from the Australian banks. However, the outlook is challenged: household debt to disposable income is 190%; macro prudential tightening; house prices in the bubble territory; near-record low BDD charges; higher capital (APRA’s interpretation of ‘unquestionably strong’ and mortgage risk weights); and medium term risk of changes to bank levy. We find it hard to be bullish despite the strong industry structure and yield support.
The analysts had this to say on Hong Kong lenders:
We believe the market’s view on rate leverage is right for the wrong reasons, with most upside coming from higher Return on Free Funds (ROFF) rather than spread.
We believe current HK Bank share prices only reflect three rate rises over the next three years. For investors optimistic for global growth and reflation, HK banks still look attractive.
They were also cautious on Singapore lenders and said there is a risk that bad debt charges may remain elevated.