DBS Group Q1 Was Another Home Run (DBSDY)

Investment Thesis

It was roughly one year ago that we upgraded DBS Group Holdings Ltd. (OTCPK:DBSDY) (OTCPK:DBSDF) from a Hold to a Buy. We concluded then that the pullback in share price from S$35 to $28 made DBS shares attractive enough to Buy.

Please do bear in mind that our stance for DBS Group Ltd. of Singapore is the same whether it is for the ordinary shares trading on the Singapore Stock Exchange, or as an American Depositary Receipt trading in the U.S.

DBS Group has two classes of ADRs. One is DBSDY which represent 4 ordinary shares, and the other is DBSDF which represent just one ordinary share.

As such, if we upgrade or downgrade the stance, it covers all three alternatives to invest in the bank.

It has been a very good place to be invested in any of these three alternatives.

Whenever a share price climbs to new highs, it naturally results in shareholders starting to think that it might be a good time to take their profits.

It reminds us of what the banker and investor Baron Nathan Rothschild once said:

I never buy at the bottom, and I always sell too soon”

With this article, we shall consider whether we want to maintain our previous Buy stance remains, or change course.

As usual, we start with the company’s latest financial results

DBS First Quarter Results

DBSDY delivered a net profit of S$2.96 billion, which was an improvement of 15% on a y-o-y basis. If we look at it on a q-o-q basis, the improvement was as high as 30%. It is safe to say that the bank hit a home run last quarter.

The return on equity increased to 19.4%.

Net interest income grew 8% to S$3.5 billion, lifted by higher NIM, which continued to climb by 2 basis points to 2.77%. A year ago, we thought that NIM would start to decline, but thanks to Mr. Powell, rates are staying higher for longer globally.

At least for now.

The reason we described last quarter as a “home run” is that it was not only the net interest income that rose, but fee income also did well.

Net fee income grew by 23% and crossed $1 billion for the first time, with an increase led by wealth management and loan fees.

According to the management, wealth customers which have been sitting on the fence parking their cash in deposits, are now increasingly beginning to put money to work. This adds bank fees for the bank. On that note, it gives us as investors some concern. When others are getting greedy, it is time for us to get cautious.

It was positive to see that DBS’s consumers are starting to spend more money. The bank’s card fees grew 33% to $301 million. The inclusion of customers from the recently acquired Citi Taiwan portfolio accounted for 75% of the increase.

The bank’s division in charge of Markets Trading activities also did well, posting an income of $246 million in Q1.

Inflationary pressure and costs of integrating their new investments resulted in a rise in total expenses of 10% to S$2.08 billion.

Nonperforming assets rose 3% from the previous quarter to $5.22 billion. New NPA formation was partially offset by repayments and write-offs. The NPL ratio was unchanged from the previous quarter at 1.1%.

CET1 ratio stood at 14.7% at the end of Q1.DBS

DBS Group valuation

Conventional wisdom would be that the higher the share price goes, the smaller the safety margin becomes.

The share price of DBS on the Singapore Stock Exchange has risen to S$35.70 as of the time of writing. That means its market capitalization has gone up to $102 billion. This is the highest ever for a Singapore-listed company.

Let us look at the comparison between these banks and see that they are very similar in terms of their price to value.

The three Singapore home-grown largest banks are DBSDY, Oversea-Chinese Banking Corporation Ltd. (OTCPK:OVCHF), and United Overseas Bank Ltd. (OTCPK:UOVEY) (OTCPK:UOVEF).

All three banks are good banks.

Our preference for DBSDY is based on what we see as a better growth potential for DBSDY with its presence in several important Asian trading and wealth hubs, like Hong Kong with its Greater Bay Area, Taiwan, and India.

On the topic of the share price, we do take note when a company’s CEO or CFO sells their shares.

In early May, just after the receipt of 1 bonus share for every 10 shares owned which took place at the end of April, DBSDY’s CEO Piyush Gupta sold 95,000 shares at a sum of about S$3.4 million. He still owns 2.69 million ordinary shares.

It is a small part of the number of shares he holds. However, we assume that he thought it was a good price to sell the shares at.

At least a fair value.

Singapore and Hong Kong’s economy

We will focus on the two largest markets for DBS. They are Singapore and Hong Kong.

Singapore

• Inflation & interest rates

All eyes these days are on what central banks will do to interest rates. A decade of very low interest rates has resulted in corporates and individuals becoming used to low borrowing costs. It is only when the tide goes out, that you can notice who has been swimming naked.

Most countries central bank sets a steering rate, which is the interest rate banks need to pay to borrow money from the central bank overnight. A discounted rate is the rate that banks get paid by central banks if they hold surplus liquidity that they lend to the central bank.

A higher interest rate is the central bank’s tool to curtail inflation.

The Monetary Authority of Singapore, on the other hand, does not use the interest rate as their tool. They use their exchange rate mechanism against a basket of currencies to curtail inflation. A stronger Singapore dollar makes the importation of materials cheaper. Hence, inflationary pressure should be reduced.

On the 12th of April, MAS published its latest economic figures and projections. MAS’s core inflation averaged 3.4% y-o-y in January and February. Their forecast is for the inflation level to stay elevated in the coming quarters, but should taper towards the end of 2024.

Singapore’s Ministry of Trade & Industry showed that GDP growth in the Singapore economy came in at a weak 0.1% on a q-o-q seasonally adjusted basis in Q1 of 2024, down from 1.2% in Q4 2023.

Fortunately, Singapore does have a low official unemployment rate.

On the topic of interest rates and employment, we would like to share with our readers that borrowers in Singapore can get a 2-year fixed mortgage rate of 2.85% which in our opinion is not high. Certainly, not in a historical context. We see very few forced sales of properties at this moment.

Hong Kong

• Inflation & interest rates

To compare apples with apples, we compare Hong Kong’s inflation on the same basis as that of Singapore. The average for January and February 2024 on a y-o-y basis was only 1.3%, which is considerably lower than the 3.4% Singapore reported.

The Hong Kong dollar has been linked to the U.S. dollar for forty years. This means that their interest rate must follow that of the Federal Reserve closely. According to an article in the South China Morning Post, the major Hong Kong banks kept their HK dollar prime lending rates at 5.875% in early May. Interestingly, the interest they pay on deposits is only 0.875%

Hong Kong’s economy recorded moderate growth in the first quarter of 2024. According to the advance estimates, real GDP grew by 2.7% in the first quarter of 2024 over a year earlier. On a seasonally adjusted quarter-to-quarter basis, real GDP increased by 2.3%.

According to the Government of Hong Kong, Census & Statistics department, they also have a low unemployment rate of just 3%.

As a commentary on Hong Kong versus Singapore, there seems to be less confidence in Hong Kong than what we see in Singapore.

The real estate market and consumer confidence are low in Hong Kong. DBSDY also reported a tepid demand for mortgages in Hong Kong. They also informed during the recent presentation to analysts that their exposure to commercial real estate in Hong Kong was S$18 billion. However, they reassured investors that their stress test did not give them any elevated concern for now.

Risk to Thesis and Conclusion

The bank is still facing some headwinds in loan growth in Hong Kong as some of the loans are shifting from Hong Kong to mainland China. The property market in Singapore is also soft. As such, we could see a reduction in new mortgages in their two main markets.

With interest rates staying elevated for longer than earlier anticipated, DBS is also keeping an eye on their unsecured consumer book, and their SME loan book.

Their CEO Gupta stated in the last presentation to analysts:

If the rates do not go down materially within the next 12 months, it is not unreasonable to assume that at some stage, you should start seeing a pickup in provisions to go back to long-term averages.”

What is the average?

We have looked at 10-year historical data of both Non-Performing Assets and Non-Performing Loans to determine what the averages are.

The 10-year average NPA is 5.03, which is basically where we are now.

The average for the NPL is 1.3%. We do not see elevated risk from their present level of NPA, but we will keep a close eye on it in the coming quarters.

To sum it all up. The share price of DBSDY is not expensive in terms of its valuation.

However, we do feel that all this good news is already priced in.

At the present share price level, we would downgrade DBSDY back to a Hold level, as we think the risk/reward for a future rise in the share price is less favorable.

We will not presently sell down our position, as we still think that it will reward shareholders with generous dividends in the foreseeable future. It is hard to predict where the share price will go from here. We are prepared for both directions without losing any sleep.

Editor’s Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.