When it comes to investing in blue-chip stocks, it’s tough to find better candidates than Singapore’s big three.
Yes, I am talking about our local banks.
The trio are key pillars of Singapore’s economy and their fortunes are closely tied to not just the health of the economy, but also global interest rates.
And with interest rates on the rise, our local banks has also reported sparkling sets of earnings.
DBS Group (SGX: D05), the largest of the three, reported a record net profit of S$2.2 billion for its latest fiscal 2022’s third quarter results.
Singapore’s second-largest bank OCBC Ltd (SGX: O39) also announced a record net profit of S$1.6 billion for the same period.
United Overseas Bank Ltd (SGX: U11), or UOB, not to be outdone, saw its net profit hit an all-time high of S$1.4 billion.
The banks’ share prices, however, have not soared along with their earnings.
DBS Group is up just 2.2% for the year while OCBC has risen 6.8% year to date. UOB is the best performer of the trio with a 13.5% share price increase so far this year.
Investors are probably wondering – can the three banks continue to do well and report good earnings moving forward?
And could their share prices start to surge in tandem with better financial numbers?
Interest rate tailwinds
All three banks are basking in the sun as the surge in benchmark interest rates has lifted their net interest margins (NIMs).
The recent 3Q2022 results were the first quarter where the effects could be seen, resulting in all three reporting record-high earnings as net interest income (NII) soared.
The second quarter (2Q2022) average NIM for all three banks stood at 1.65%, but this average jumped significantly to 1.97% for 3Q2022.
For 4Q2022, investors can expect further NIM increases for all three lenders as the US Federal Reserve continues to increase benchmark interest rates.
DBS expects its NIM to reach 2.25% by the middle of 2023, while OCBC has indicated that NIM for its fourth quarter has already exceeded 2.1%.
The interest rate tailwind should persist as we usher in 2023 as interest rates are anticipated to stay high until the inflation rate moves towards the Federal Reserve’s target of 2%.
A possible recession brewing
Even as the banks are riding high on soaring interest rates, Prime Minister Lee Hsien Loong has sounded a note of caution.
He warned that Singapore may face a recession either next year or in 2024.
With banks’ fortunes being closely tied to the health of the economy, a recession will inevitably crimp the profits of all three lenders.
Higher interest rates may allow banks to expand their NIM, but it also creates more financial stress for companies with high levels of debt.
Banks may find their non-performing loans (NPL) ratio increasing if more borrowers cannot service their loans or repay their debts.
Companies that are facing cash flow issues may also signal these difficulties to the banks, resulting in the lenders making higher provisions for bad loans.
Businesses that may not have heavy borrowings are also affected as they may be less willing to borrow at higher rates, thus crimping the three banks’ loan growth.
Are dividends on the rise?
Still, with the momentum generated from higher NIMs, all three banks likely have room to raise their dividends.
DBS paid out S$0.36 per quarter for its latest 3Q2022, but investors may recall that the bank had raised its final dividend from S$0.33 to S$0.36 last year.
The same may happen again this year.
Meanwhile, OCBC has paid out an interim dividend of S$0.28 for 1H2022, 12% higher year on year.
Its recent results may also prompt the bank to raise its final dividend above the S$0.28 it paid out in FY2021.
Finally, UOB has kept its interim dividend unchanged from 1H2021 at S$0.60 but has room to pay out a special dividend as it did back in 2019.
Should all three banks declare a better dividend when they report their FY2022 earnings, this could be a good catalyst for the share price to jump in 2023.
Other catalysts at play
Apart from a potential NIM uplift, both DBS and UOB have other catalysts that could help boost their earnings next year.
UOB acquired Citigroup’s (NYSE: C) consumer business in four countries – Malaysia, Indonesia, Thailand, and Vietnam.
The acquisition was completed in both Thailand and Malaysia on 1 November while Vietnam and Indonesia are expected to close by the end of 2023.
Elsewhere, DBS scooped up Citigroup’s Taiwan consumer banking division in a S$2.2 billion deal, so the successful integration of this acquisition could show up in the bank’s numbers next year.
Get Smart: An uncertain outlook
It appears that all three banks are enjoying the tailwinds from higher interest rates.
The flip side, however, is that a sharp downturn may crimp profits and lead to slower, or even negative, year-on-year loan growth.
The outlook at this juncture remains highly uncertain.
Investors should continue to monitor macroeconomic data and the banks’ business performance into next year to see how they are dealing with the above issues.
If the positives outweigh the negatives, we may indeed see higher dividends come 2023.
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Disclaimer: Royston Yang owns shares of DBS Group.
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