ASEAN Banks: 5 Top Trades For 2015 -- Barron's Asia

By Morgan Stanley

Our overall outlook for ASEAN banks for 2015 remains subdued. In our view, the strong earnings growth we experienced from 2010-2013 is unlikely to be repeated as loan growth is expected to be more measured. This is partly because banks continue to face liquidity constraints, and we are unlikely to see this improve in a strong dollar environment. In addition, borrowers are more indebted than they were five years ago, and are not expected to add significantly more debt as rates are expected to edge up. These constraints on lending are expected to add to a subdued economic environment, although we do expect growth to be stronger in 2015 than it was in 2014, and we believe some of the uncertainties that existed 12 months ago, especially as regards credit quality, have begun to work themselves through.

Capital is also expected to remain a vexing issue in 2015. On the one hand banks have more of it, and most appear well positioned for Basel III implementation. On the other hand, they could still need more, and as capital builds up further, it will begin to impact returns, and possibly risk as bank managements seek to lift RoE (return on equity). Capital therefore remains a risk for 2015.

In a table which can be seen at barrons.com, we rank the different ASEAN banking markets from one to five based on a variety of metrics, with one representing the best score. We have then showed an average score across these metrics. We see the Philippines as being the best banking market for 2015, closely followed by Indonesia and Singapore.

Given this more subdued environment, we seek stocks with high and stable returns, or stocks with improving returns. In Indonesia, we recommend a switch out of Bank Rakyat Indonesia (BRI), where returns are more at risk, and into Bank Central Asia (BCA) or Bank Mandiri. In addition, we prefer the high return KBank over the low RoE Bangkok Bank. Recent underperformance of KBank provides an opportunity to revisit this call. Finally we are positioned in banks where returns may not be as high, but where we see a pick up in returns or EPS growth. For Singapore banks, we expect higher rates from 2016 onwards will help lift returns - OCBC and DBS are preferred, we see more upside at OCBC. We also see returns improving for the Philippine banks; Metrobank is the only one which offers upside to our target price, however, and is our Overweight call in the sector. We highlight the investment case surrounding our key picks below, and then discuss our country sector preference in more detail.

1. Buy Metrobank in the Philippines

We see the Philippines as the most attractively positioned of the ASEAN banking market, primarily due to its strong liquidity position and leading GDP growth forecasts. However, valuation multiples are full, with the exception of Metropolitan Bank & Trust (MBT.PH). In our view, Metrobank will see continued strong loan growth over the next two years and this will drive the strongest underlying earnings per share (EPS) growth in the Philippines sector. This should also lead to a narrowing of the valuation gap between Metrobank and its local peers.

2. Buy Mandiri or BCA in Indonesia; sell BRI

We continue to prefer Bank Central Asia (BBCA.ID) as one of our top picks, especially in the context of a prolonged downcycle. We expect loan growth to accelerate after consolidation in 2014. We also see greater risk aversion from the market.

Bank Mandiri (BMRI.ID) is our second pick, based on its structural growth prospects. Mandiri has been leading peers in terms of business evolution, which should make it best prepared to transform and diversify its income sources from lending to non-lending drivers. We expect an acceleration in its earnings in 2015, but the stock could remain volatile in the short term considering its high beta.

Our least preferred Indonesian bank is Bank Rakyat Indonesia (BBRI.ID): its lending and NIM (Net interest margin) have been slowing down, while its asset quality has been deteriorating. We remain cautious on the sustainability of RoE, especially on loan yield, and believe any RoE downside will prompt a de-rating.

3. KBank Preferred over Bangkok Bank

Although the outlook for loan and income growth at the Thai banks is better in 2015 than it was in 2014, we still expect slow growth. In addition, the tight cost control of 2014 is likely to be relaxed and credit costs will remain elevated. In this environment investors are expected to stick with higher return names such as Kasicornbank (KBANK.TH). We expect that it will continue to deliver strong RoE of 19.7% in 2015e, driving book value growth of 17.3%. In our view, investors will continue to pay a premium for this growth, and we see 15% upside over the next 12 months. By contrast, we see the slowest book value growth in the Thai banks sector coming from Bangkok Bank, where RoE is set to remain low at 12.5% as the bank continues to see inefficient use of RWAs. We see book value growth of just 8.1% at Bangkok Bank (BBL.TH), producing a 27% lower TSR than KBank over the next three years. We expect investors will continue to value it at a discount as a result. While KBank has underperformed BBL since early Dec-14, we believe its delivery of higher returns and superior TSR will mean this could easily reverse.

4. Stick with Defensive Singapore Plays - DBS and OCBC

Although Singapore banks are expected to produce some of the lowest top-line and bottom-line growth in the sector in 2015e, we remain positive for two reasons. Firstly, we see Singapore banks as having some of the lowest risks in both economic and political terms. In addition, although we see less uncertainty over credit costs across ASEAN this year, we are still in the upward part of the NPL cycle, and note that Singapore banks have generally managed credit risk better than other ASEAN peers in the past. Secondly, we do expect short term rates in the US and then Singapore will begin to rise in 1Q 2016, and that this will then drive NIM expansion and EPS growth. Share prices of the Singapore banks could react to this perspective growth in 2015.

We see more upside in OCBC (O39.SG) than DBS (D05.SG), and note that as OCBC continues to pay a scrip dividend in 2015e, its fully loaded core equity tier 1 ratio gap with peers will begin to close. This could lead to a relative re-rating.

5. Maybank is the oil price trade

Maybank (MAYBANK.MY) has been one of the sector's worst performers in 2014. In common with other Malaysian banks, it has experienced EPS downgrades driven by a weaker-than-expected domestic NIM, slow capital market activities, and a deterioration in both NIM and credit quality at its Indonesian subsidiary, BII. In addition, it has gone from being one of the highest rated ASEAN banks relative to its history, to being one of the lowest rated. The slide in the oil price since Sep-14 has particularly hurt its rating. Our ASEAN economist, Deyi Tan, sees Malaysia as being most negatively impacted by the falling oil price.

Whilst the outlook for 2015 remains difficult, we see a lot as being discounted in the price, and Maybank could rebound sharply on the first signs of oil price stabilization. MS strategists see a year end 2015 Brent price of US$82/bbl, although they expect to see it trough at US$57/bbl by end of 2Q15.

---

Ranking Country Sectors

The Macro Outlook for banks

Putting our ASEAN Economic forecasts in the context of banking growth

1. Philippine Banks: We see the Philippine banking system as the most preferred. Although a low level of financial inclusion plus a conservative central bank and bank managements mean the credit multiplier is unlikely to increase materially, the higher than peer GDP forecasts on a flat multiplier still ranks Philippine first in ASEAN5 in terms of our system loan growth forecast of c.15% over FY14-16. We also think strong balance sheet growth will benefit Philippine bank margins and thereby returns.

2. Singapore Banks: While credit growth is forecast to be c.7% in Singapore, we believe rising rates will more than offset slower balance sheet growth resulting in higher margins and returns for the Singapore banks, although these rate benefits are unlikely to fully materialize until late FY16.

3. Indonesia Banks: The only other banking system where we expect mid-teen loan growth of c.15% to continue over FY14-16 is Indonesia. However, the possibility of a hawkish interest rate trend (thereby tighter liquidity) amidst rupiah weakness could mean more downside risks for the Indonesian banks, particularly for those with weaker funding franchises.

4. Thai Banks: Political uncertainty has clearly taken its toll on GDP growth in FY14. Moreover, Bank of Thailand cut GDP growth estimates for FY14/15 from 1.5%/4.8% to 0.8%/4.0% on Dec. 26, 2014. This compares to MS' FY14/2015 GDP growth forecasts of 0.6%/3.6%. Based on a credit multiplier of 2.5x (the average multiplier in Thailand since 2009), we expect c.9.0% loan growth for Thailand in FY15. Despite some forecast improvement in margins in 2016 (in-line with our ASEAN economist, Deyi Tan's expectation of policy rate normalization beginning 4Q15), we do not expect NIM and hence profitability to return to levels seen in FY11-13.

Compounded with the lack of a structural story, unlike in the Philippines and Indonesia, we expect Thai Bank EPS growth from FY14-16 to be structurally lower than in FY11-13.

5. Malaysian Banks: With forecast fiscal consolidation (that could come under further pressure as falling oil prices could potentially worsen the 'Dutch Disease' problem) and a slowdown in GDP growth, we expect system credit growth of c.8% in FY15/16. In addition, with policy rates expected to remain flat, we see slower earnings growth over the same period. We also note that large Malaysian banks with mid-tier Indonesian funding franchises that are exposed to deteriorating asset quality in the coal and coal related lending segments add to downside risks.

Liquidity

Subscribe to WSJ: http://online.wsj.com?mod=djnwires

Many ASEAN banks and banking systems have hit LDR constraints. As LDR continues to rise, we are seeing this push up interest rates, and loan growth is consequently slowing in Indonesia, Malaysia and Singapore. In Thailand, rates have moved down recently, but balance sheet growth is nonetheless slowing (going forward, we expect balance sheet growth to improve and ultimately, margins to recover, but to a structurally lower level than pre FY13). Again, the Philippines stands out here as it is the only country in ASEAN5 where the LDR has remained unchanged since 2008 and at 62%, has the largest scope to increase it and consequently benefit bank margins and profitability. The same cannot be said of Thailand and Indonesia on the other end of the spectrum with an LDR of 110%. At 80-90%, the scope for LDR improvement is relatively limited for Singapore, Malaysian and Indonesian banks too.

---

This is an extract from a longer Asia Insight Research report by Morgan Stanley analysts Nick Lord, Mulya Chandra, Edward Goh and Daniel R Ng.

---

The companies mentioned in Hot Research are subjects of research reports issued recently by investment firms. Their opinions in no way represent those of Barrons.com or Dow Jones & Company, Inc. Share prices at the time the report was issued and the date of the report are in parentheses.

---

To be considered for this feature, please send material to: Email: [e-mail]

---

Comments? E-mail us at [e-mail]

Subscribe to WSJ: http://online.wsj.com?mod=djnwires