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Banks ride tailwind of higher interest rates

Goola Warden
Goola Warden • 3 min read
Banks ride tailwind of higher interest rates
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DBS may be the largest bank in Southeast Asia, followed by OCBC O39 -

and UOB. However, the business models of all three banks have more things in common. Of late, they share another performance trait — thanks to rising interest rates, the net interest income (NII) for all three has surged, eclipsing fee income.

In FY2022 ended December 2022, DBS Group Holdings D05 -

reported a record net profit of $8.2 billion. In 1QFY2023, DBS reported a net profit of $2.57 billion, an all-time high for quarterly earnings. Oversea-Chinese Banking Corp and United Overseas Bank U11 - also reported new highs for their FY2022 net profit and 1QFY2023 net profit (see Table 1), but they are both still a long way from DBS’s expected $10 billion in net profit for FY2023.

Geographically, they appear to be different on the surface. Most noticeable last and this year is UOB’s further entrenchment in Asean. Meanwhile, DBS believes it is better to connect the flows of the two Asian giants, India and China, with Indonesia and Taiwan. On the other hand, OCBC will likely double down on China’s Greater Bay Area (GBA) for investment flows into its two Asean markets — Malaysia and Indonesia — and wealth management flows into Singapore.

Among the three banks, DBS’s total exposure to Greater China and Hong Kong at 12.8% and 17% respectively is larger than OCBC’s exposure to China at 24.6%. UOB has the lowest exposure to China at 17% because its main focus is Asean but Chinese companies make up more than half of the companies expanding into Asean under its Foreign Direct Investment (FDI) Advisory unit that was set up in 2011.

While OCBC overlaps geographically with both UOB and DBS, in terms of business units, DBS and UOB are similar in terms of their digitalisation efforts. They are both traditional banks that have digitalised for customers of the 21st century. In terms of all-in-one banking apps, DBS offers digibank to customers in India and Indonesia while UOB has UOB TMRW for customers in Singapore, Thailand, Indonesia and Malaysia — and should soon be launched in Vietnam as well.

Both digibank and UOB TMRW are full digital banks that can operate independently of physical branches when it comes to onboarding customers and offering products.

See also: OCBC expands programme to equip another 10,000 elderly with digital banking skills and scam prevention awareness

However, both digital banks have a phygital (physical plus digital) impact as well. As digital banks, they can lower their cost-to-serve and reach a larger customer base than in previous years when expensive bank branches were required, especially for retail and SME banking.

In contrast, OCBC is differentiated by its ownership of insurer Great Eastern Holdings G07 -

(GEH), which contributes about 15%–20% to OCBC’s net profit. At least until FY2022, GEH was volatile for OCBC because of the mark-to-market impact of its interest rate-sensitive assets and liabilities.

As evidenced by this year’s AGMs, investor disquiet is emerging. GEH shareholders are asking why GEH management is rewarded with OCBC stock options. On the other hand, OCBC shareholders have asked whether OCBC would consider paying GEH shares to OCBC shareholders as a dividend-in-specie to raise GEH’s liquidity, which, in turn, would boost OCBC’s share price. If the OCBC board goes along with a dividend-in-specie, OCBC’s share price could have the largest upside potential among the local banks, although both DBS and UOB would also distribute higher dividends if net profit growth continues to climb.

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