DBS Group Undervalued As Investors Fret About Macro Scenarios

DBS Group (OTCPK:DBSDF) (OTCPK:DBSDY) hasn’t had perfect quarterly reports since my last update, but the underlying performance of the bank has been better than the basically flattish performance of the share price would suggest. It’s understandable that investors are worried about the impact of higher rates on Asian economies (and borrowers) and the risk that turmoil in the Chinese property sector spreads, but that worry seems to be excessive relative to the company’s credit quality and earnings power over the next year or two.

DBS Group is always going to be a higher-risk investment than a bank like Bank of America (BAC) given the company’s exposure to multiple economies, including more volatile markets like China, India, and Indonesia, but I wouldn’t ignore the strong returns on capital that this bank has generated over full cycles, nor the efforts that the company has invested toward establishing itself as a significant digital banking presence in multiple growth markets. I believe the shares are at least 10% undervalued today and priced for a long-term total annualized return in the low-to-mid-teens.

 

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 DBS Group Undervalued As Investors Fret About Macro Scenarios

Global Turmoil Gives Investors Another Crack At DBS Group

 

Horrible as the situation in Ukraine is, the chaos unleashed by Russia’s invasion and the resulting weakness in global equity markets has created some new windows of opportunity in well-run and recently-popular stocks. Singapore’s DBS Group (OTCPK:DBSDY) is among that group, as this well-run and very asset-sensitive bank has sold off almost 20% from its February highs.

DBS Group management has proven through this latest cycle that its underwriting is fundamentally sounder than in cycles past, and the company has also been careful with its capital allocation and M&A strategy. The biggest risk I see for DBS Group now is that higher energy prices and decreased business confidence lead to a slower tightening cycle in the U.S. and less rate leverage for DBS Group. Even with that risk in place, though, I like this bank’s prospects for mid-single-digit long-term core earnings growth, and I believe the ADRs are undervalued below $110.

 

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Global Turmoil Gives Investors Another Crack At DBS Group

The Recovery At DBS Group Is Underway, With Growth To Come

 

Since my last update, Singapore’s DBS Group (OTCPK:DBSDF) (OTCPK:DBSDY) has continued to perform fairly well, outperforming other Singapore banks like United Overseas Bank (UOVERY) and OCBC (OTCPK:OVCHF), as well as Standard Chartered (OTCPK:SCBFY) and the Asian banks in general, with a total return of around 17% for shareholders. Outperformance has been driven largely by much lower than expected credit costs, but fee income, expenses, and loan growth have been trending more positively than expected as well.

I continue to like DBS Group’s growth opportunities over the next decade. Management has been increasing its exposure to growth opportunities in India and China, as well as Southeast Asian markets like Indonesia, and I believe there’s a long runway for the company’s “phygital” strategy of building a strong digital bank complemented with a local physical presence. Long-term core earnings growth of 5% to 6% can drive total long-term annualized returns in the double-digits from here, making this still a bank well worth considering.

 

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The Recovery At DBS Group Is Underway, With Growth To Come

DBS Group Has Quieted Credit Concerns And Can Pivot To Growth Again

There's still a long way to go in terms of addressing the global pandemic and getting back to business as usual, but the global economy is picking up. Between government assistance programs in many countries and its own underwriting discipline, Singapore's DBS Group (OTCPK:DBSDF) (OTCPK:DBSDY) has come through this trial in better-than-expected shape, answering critics who tried to claim that earnings were being boosted by less disciplined underwriting standards that would be exposed during the next big economic downturn.

Since my last update on DBS Group, these shares have done okay - rising about 25% and doing a little better than other regional peers like Standard Chartered (OTCPK:SCBFY), United Overseas Bank (OTCPK:UOVEY), and OCBC (OTCPK:OVCHF), but not really standing out from global peers as much as you might hope relative to what I see as superior underlying quality.

I still see double-digit potential from DBS Group on what I believe are relatively conservative long-term growth assumptions that drive a core earnings growth rate around 5%. Meaningful upside could come from greater progress in emerging markets, particularly using digital banking strategies and select physical acquisitions to grow in attractive markets like India, Indonesia, and Vietnam over the coming decade, though increased competition remains a risk.

 

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DBS Group Has Quieted Credit Concerns And Can Pivot To Growth Again

DBS Group Dragging As Rates And Slow Loan Growth Weigh On Near-Term Growth

When I last wrote about DBS Group (OTCPK:DBSDY), I noted that “a credit loosening cycle in the U.S. and increased trade tensions could create some near-term challenges,” and those challenges have in fact materialized for this leading Singaporean bank. Still, the company has handled these challenges well and the growth outlook hasn’t been compromised all that much, particularly as credit and net interest margins have held up better than expected.

DBS Group shares have eked out a slight gain since that last piece due to the dividend (the share price is down modestly), and the shares have done about as well as OCBC (OTCPK:OVCHY) and the Singaporean market, while United Overseas (OTCPK:UOVEY) and Standard Chartered (OTC:SCBFY) have both done a little better. Despite a lackluster run over the last year or so, I still believe this is a very high-quality Asian bank with good leverage to growth in China, South Asia, and Southeast Asia, and though it might take a little time for the shares to work, I think it’s still a good name to consider.

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DBS Group Dragging As Rates And Slow Loan Growth Weigh On Near-Term Growth

DBS Group Executing Well, But Caught Up In U.S. Rate And U.S.-China Concerns

DBS Group (OTCPK:DBSDY) management continues to do well relative to what it can control – spreads are okay, pre-provision profits have been growing, credit quality remains strong, and there’s a cogent plan in place to grow across multiple markets. The “but” is that there’s next-to-nothing management can do about the Singaporean government’s housing cool down policies, let alone the U.S. rate cycle and the trade tensions between the U.S. and China – the latter two issues seemingly weighing more heavily recently.

DBS shares haven’t done that well since I last wrote about the company, though they’ve done better than other Singaporean banks and most other banks in its operating theater. Although a credit loosening cycle in the U.S. and increased trade tensions could create some near-term challenges, I like the long-term outlook for mid-teens ROEs, higher dividends, and mid-to-high single-digit earnings growth. I still believe fair value lies above $90, so I think this sell-off is a buying opportunity for investors who can live with the risk of elevated near-term volatility.

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DBS Group Executing Well, But Caught Up In U.S. Rate And U.S.-China Concerns

DBS Group Executing On A High-Quality Growth Plan

While investors in North America and Europe have been selling off bank stocks to a degree that seems to price in a coming recession, Singapore’s banks have held up a little better. I was a little concerned about China-related macro risk and efforts to slow/cool Singapore’s housing market in reference to DBS Group (OTCPK:DBSDY) back in August, but the shares have done okay next to most global indices as housing, construction, and manufacturing-related demand have all held up reasonably well.

I continue to believe that DBS Group shares look appealing barring a global recession and/or a serious deterioration in China. Loan demand is likely to slow noticeably next year, but DBS Group should still be poised to benefit from some rate moves while credit quality remains benign. Longer term, I expect meaningful leverage from the company’s investments in digitalization and market entry/development in India and Indonesia.

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DBS Group Executing On A High-Quality Growth Plan

Loan Growth Worries Weighing On DBS Group

Even though DBS Group (OTCPK:DBSDY) is one of the best-regarded banks in Asia, it’s not immune to macro-economic concerns. If anything, the company’s position as a significant lender in China and Hong Kong and a large player in trade financing makes it even more sensitive to the health of the global economy. While DBS Group enjoyed a nice two-year run on easing credit quality concerns, new worries about loan growth have thumped the shares over the past three months.

I don’t want to undersell the risks to DBS Group if the trade dispute between the U.S. and China ratchets up, nor the risks from a weaker Chinese economy (and particularly its property market) or a slowing U.S. recovery/expansion. DBS Group needs loan growth to really thrive and any/all of those factors could create loan growth pressures, as well as efforts to cool the Singaporean housing market. That said, this is a bank that has been tested by macro challenges in the past and came through. With the shares trading more than 20% below my estimate of fair value, I’d at least consider these shares as candidates for a watch list.

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Loan Growth Worries Weighing On DBS Group

DBS Group's Digital Strategy Makes Dollars And Sense

What a difference less than a year makes. DBS Group’s (OTCPK:DBSDY) ADRs are up almost 50% over the last year, as investors calmed down after the energy/commodity panic of 2016 and took courage from improving loan growth, interest rate, and credit quality trends across the Asian bank sector in 2017. Even after a big run, though, the shares may have more to give. DBS Group shares look undervalued on the basis of near-term ROE prospects and if digitalization initiatives pay off in the form of increased customer acquisition/activity and lower operating costs, the long-term growth potential could be meaningfully better than what it appeared to be just a year or two ago.

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DBS Group's Digital Strategy Makes Dollars And Sense

DBS Offers Leverage To Higher Rates And A Recovery In China, But Credit Remains A Concern

Buying good companies that are down on momentary hiccups is a time-tested strategy, and the nearly 40% move in the ADRs of DBS Group (OTCPK:DBSDY) since late October certainly backs that up. As provisioning seems to be tapering off and coming in well below the worst-case scenarios that sell-side analysts were batting around last summer/fall, investors have once again come back to core long-term drivers like DBS Group's strong market share in Singapore, China-driven growth potential, and leverage to higher rates and growing fee-generating businesses. 

I have long liked DBS Group, and I'm generally slow to move away from the stocks of companies I like. That said, the share price now seems to factor in high single-digit long-term earnings growth and low double-digit ROEs, so I really can't say that the shares are dramatically undervalued. There are some concerns again now, though, about credit trends, and investors interested in adding Asian banking exposure should keep an eye on these shares in case the nearly 10% pullback from the recent high stretches out a bit further.

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DBS Offers Leverage To Higher Rates And A Recovery In China, But Credit Remains A Concern

Quality Concerns Front-And-Center At DBS Group

It's a lot easier to lose a reputation than to gain it, and DBS Group (OTCPK:DBSDY) has investors worrying about whether they're about to see a flashback to the bad old days of unexpectedly high bad loans at this leading Singapore bank. With a major recent bankruptcy from a debtor that wasn't even flagged as a problem, concerns about credit quality, balance sheet quality, and even management quality are back in investors' minds. And if that weren't enough, China isn't exactly the picture of health and DBS is running out of levers to pull to keep its peer-high net interest margin strong.

I suppose the fact that the ADRs are only down about 6% since my last update is actually sort of good news given how sentiment has turned (the average sell-side target price is 15% lower than back in March). I still believe this is a good bank, but the sort of provisioning and credit losses that the bank reports over the next couple of years will show whether that belief is well-founded. I've cut my expectations to what looks like a low bar (roughly 2% growth over the next five years, and about 6% growth over the long term), but anyone who remembers back to our own banking crisis will know how badly wrong those projections can go if credit quality really falls away.

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Quality Concerns Front-And-Center At DBS Group

Seeking Alpha: DBS Group Has Been Beaten Down On Worries About China And Commodities

It has been a rough stretch for Singapore's DBS Group (OTCPK:DBSDY) since I last wrote about this leading ASEAN bank, with the shares down more than 20% and underperforming United Overseas Bank (OTCPK:UOVEY) (down about 19%) and Oversea-Chinese Banking Corp. (or OCBC) (OTCPK:OVCHY) (down 11%). While DBS Group actually hasn't performed that poorly from an operational view, with 2015 earnings pretty much in line with the expectations for 2015 back at the time of that last article, investors have grown increasingly concerned about the rate environment, the slowdown in China, the company's commodity lending exposure, and the prospect of higher loan losses.

While high-quality banks in difficult economies have shown in the past that tough times can definitely exceed management expectations (Brazil's Itau Unibanco (NYSE:ITUB) comes to mind), it seems as though the market is expecting DBS to see its non-performing loans jump from less than 1% today to 5% or more over the next couple of years. Possible? Of course. Probable? I don't think so.

In what I think is a relatively bearish scenario (cumulative 2016-2018 earnings about 5% below the current sell-side expectations), DBS Group's ROE slips below 10% for a few years, but the bank would still grow earnings at a roughly 4% annualized rate over the next five years and closer to 6% over the long term (consistent with a low-double-digit ROE). That would support a fair value of over $52 on the ADRs today. If management is right about its loan growth and credit loss experience (in other words, better than the sell-side expectations and better than that bearish outlook), the fair value moves into the mid-to-high $50s relatively quickly.

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DBS Group Has Been Beaten Down On Worries About China And Commodities

Seeking Alpha: HSBC Has A Lot Of Work Left To Do

I had pretty equivocal feelings about HSBC (NYSE:HSBC) a year ago, and the stock's 10% decline since then fits that outlook. HSBC has done quite a bit better than other Euro banks like Societe Generale (OTCPK:SCGLY) and Santander (NYSE:SAN), but really doesn't hold up well compared to the performances of JPMorgan (NYSE:JPM) or DBS Group (OTCPK:DBSDY) - banks that I believe are superior models of what HSBC aspires to be in some respects.

As is, I'm still not sold on HSBC as a great investment today. Even if management can control costs and improve operations and lift the bank's ROE above 11% in 2019, I don't see a compelling value. On the other hand, if management is willing to be bolder and adopt a "be great or be gone" philosophy, the potential of a smaller, leaner, and better HSBC could be considerably more compelling.

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HSBC Has A Lot Of Work Left To Do

Seeking Alpha: DBS Group Gives You What You Pay For

Much as I like a bargain, sometimes you have to content yourself with paying a fair price for a very good business. DBS Group (OTCPK:DBSDY), the largest bank in Singapore (and ASEAN as a whole), rarely trades at a significant discount to fair value but the company has been a pretty solid performer over the last decade even with a major setback during the global credit crisis. The shares are likewise no particular bargain today, but I think patient investors can expect a solid high single-digit to low double-digit annual return over time.

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DBS Group Gives You What You Pay For

Seeking Alpha: DBS Group Offers A Quality Play On Growth In China And ASEAN

Singapore's DBS Group (OTCPK:DBSDY) (DBSM.SI) is a different sort of bank for those readers more accustomed to the likes of Citigroup (C) or Wells Fargo (WFC). Residential lending is a smaller part of DBS Group's business and the company instead makes a significant amount of profits by extending trade and supply chain financing to companies operating in/from China, Hong Kong, and Taiwan. Management has made a lot of improvements to the operating model since 2009 and while the company's growing Chinese footprint presents some risks, there's a respectable amount of upside in the shares of one of Asia's best banks.

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DBS Group Offers A Quality Play On Growth In China And ASEAN

Investopedia: DBS Group - A Balanced Play On Asian Banking

It's too bad that more investors don't look to American Depositary Receipts as viable options to invest overseas, as many good companies are available with little sacrifice in volume or shareholder friendliness. One of the names well worth considering is Singapore's DBS Group (OTCBB:DBSDY.PK). While this bank does have some risks in its funding and its growing emerging market businesses, it has built a reputation over the years as a conservatively-run bank.

Looking To Go 40/30/30
Right now, Singapore is still a major component of DBS Group's earnings base (nearly 60%), with Greater China chipping in about 24% and countries in the Association of Southeast Asian Nations (ASEAN) another 10%. Although Singapore will likely always remain an important operating area, DBS management is hoping to move its earnings base to something closer to a 40/30/30 model - 40% from Singapore, 30% from Greater China and 30% from ASEAN.

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http://stocks.investopedia.com/stock-analysis/2012/DBS-Group--A-Balanced-Play-On-Asian-Banking-DBSDY-HBC-C-USB0411.aspx

Investopedia: HSBC On A Faster Track To Recovery

With Europe still spasming over the debt problems in Greece, Ireland and Spain, the U.S. still trying to digest billions in bad debt and foreclosed houses, China trying to slow down inflation and Japan trying to rebuild, these are not easy days to be a bank. No surprise, then, that names like Citigroup (NYSE:C) and Bank of America (NYSE:BAC) look cheap compared to historical price-book metrics. But the situation is a little different at HSBC (NYSE:HBC). This is not a perfect bank, but it looks like it's further down the road to recovery than its valuation would suggest. 

More Progress in the First Half
Admittedly, HSBC's numbers are not the easiest fodder for casual analysis, as plenty of "items" have to be backed out. Going by the reported results, pre-tax profits were up 3% on an annual comparison, with net interest income up 2%. An alternative look at the numbers shows core revenue down about 2%, with weakness in the U.S. and Europe offset by excellent results in Hong Kong and emerging markets.




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http://stocks.investopedia.com/stock-analysis/2011/HSBC-On-A-Faster-Track-To-Recovery-HBC-C-BAC-FNFG-BCS-MTB-STD0806.aspx

Investopedia: HSBC Faces A Longer Road Back To Normal

With operations in 87 countries and every major region of the world, HSBC (NYSE:HBC) basically is world banking, or at the very least has a much wider view than almost any of its competitors. To that end, investors should take some encouragement from what looks like better operating conditions around the globe. That said, investors should not ignore HSBC's lower forward ROE guidance - a strong hint that the banking industry of tomorrow will not resemble the intra-bubble levels of profitability any time soon. (For background reading, see Analyzing A Bank's Financial Statements.)

An OK End to the Year 

For the full year of 2010, HSBC reported that revenue increased just over 3% to $68.2 billion, missing the consensus estimate by about $1 billion. Net interest income fell a bit more than 3%, largely due to lower rates. The company's overall net interest margin fell as well. The biggest delta on the revenue lines, though, was in trading results: HSBC booked about 25% less revenue here than in the year-ago period and that meant $2.6 billion less in operating revenue.

Unfortunately, the company did not exactly make up for it as it went along. Compensation and administrative expenses both grew at rates that outstripped revenue growth and the company saw its efficiency ratio move to an uninspiring 55.2% - well above its 50% target level. (For related reading, see Measuring Company Efficiency.)

Continue to the full piece through this link:
http://stocks.investopedia.com/stock-analysis/2011/HSBC-Sees-A-Longer-Road-Back-To-Normal-HBC-STD-BBVA-BCS-USB-BAP-PNC0301.aspx

A Little More on Unicredit

The more I look at this Unicredit situation, the less I like it.

It looks like the proximate cause of former CEO Profumo's departure (which very much reads like a "jump ... or we push" situation) was two Libyan entities taking a combined 7.4% stake in the bank. Nevermind the fact that Unicredit needed to raise capital and large stable investors are typically a good thing, apparently this rankled some on the board and caused problems.

Truth be told, I don't know exactly what the problem is. Libya is not exactly fully rehabilitated in the eyes of the West and its not as though European institutions are overjoyed to see Arab/African investors buying their assets. And maybe that's part of what lies underneath the controversy - Libya and Italy certainly have a "history" together, and it probably aggravates the hell out of some Italians to see Libya buying into Italian assets from a position of relative power. With rumors that certain Italian politicians were displeased with this arrangement and making that known to the board, who knows exactly what role this had.

Whatever the case may be, the fact still remains that Profumo guided Unicredit from being just another Italian bank to being a major player in Europe - the second-largest bank in Italy, the third-largest in Germany, and the largest in both Austria and CEE. Even granting that the stock performed better in the first half of his tenure than the second, Profumo should still be appreciated by long-term shareholders.

And now it's time to see where the bank goes from here. There is definitely some need for restructuring at Unicredit, and perhaps that was also part of the CEO's departure - whether he wanted to go slower than the board or faster. So if Unicredit is about to change itself in some pretty significant ways, maybe it is better to do so with new management at the helm.

The vacuum at the top is certainly a big risk factor, as nobody can really say what the near-term direction for the bank is going to be (at least not until the new CEO lays it out). Likewise, it is fair to wonder just how this board operates and what sort of "non-operating influences" get to be played out behind the closed doors of the boardroom.

Still ... this bank was a quality company before the crisis and even if Italy sometimes seems like a perpetual economic and political head-case, it seems likely to be a good candidate for a strong recovery. I have enough European banking exposure for now (though Santander (NYSE: STD, Danske, and a few Swedish banks are enticing...), and would rather add in places like South America (Itau), South Africa (Standard), and Asia (DBS Group), but Unicredit seems pretty dang cheap right now.  Assuming that the board isn't daft enough to screw up over a decade of progress, this could be a good opportunity to buy a dip and get a quality pan-European bank.

Bad Timing For UniCredit

This is not a good time for UniCredito to be seeing a change at the top, but word came out tonight that CEO Profumo quit. He had been in a pretty heated squabble with the board (obviously...), and it finally comes to a head with him leaving.

It's unfortunate - although UniCredit has clearly been badly hurt in the credit crunch, they are in vast company in that regard. And it should be remembered that during Profumo's tenure at the top, he did guide the company from a conglomeration of unspectacular Italian banks into a sizable pan-European bank with once-promising businesses in Central and Eastern Europe (that could still be worth quite a bit in the future).

Admittedly, I was wrong to be so keen on banks like Societe Generale, Danske Bank, and Unicredito going into the credit crisis; I would have been far better off with banks like Itau (Nasdaq: ITUB), DBS Group (Nasdaq: DBSDY) and Standard. Luckily, SocGen was the only one I actually bought, but still ... knowing your aim was off is not comforting even if you didn't pull the trigger.

I want to write more on this tomorrow ... but suffice it to say for now that this is another challenge for a bank that already has plenty of them.

Disclosure - I own shares of SocGen