The dividend cap on Singapore banks may extend into FY21F, according to DBS Group Research analyst Lim Rui Wen.

The Federal Reserve System, on August 27, updated its statement on longer-run goals and monetary policy strategy, which aims to achieve inflation moderately above 2%, short-term rates will remain low with no hikes for several years as the hurdle to hike rates are now set much higher.

“Lower-for-longer rates are likely to weigh on net interest margins (NIMs) and return on equity recovery. In our opinion, lower net interest income, coupled with relatively soft credit demand and asset quality uncertainty, opens the possibility of extension of dividend cap into FY21F,” Lim writes in a report dated September 10.

On July 29, the Monetary Authority of Singapore (MAS) asked all three local banks – DBS, OCBC, and UOB – to pay a maximum dividend payout of 60% of what was paid for FY19. The move comes as banks are encouraged to shore up their capital during amid the economic uncertainty.

As at 2Q20, around 5 to 16% of Singapore banks’ total loans were under moratorium, of which 4 to 10% were Singapore loans.

Moratoriums for small and medium-sized enterprises (SMEs) and mortgages will end on December 31.

“As the various moratoriums come to an end towards year-end, we believe the key to preventing a ‘cliff effect’ is proactive loan restructuring and rescheduling,” says Lim.

Lim adds that the extension of moratoriums are likely to happen on a targeted basis, especially for cases such as mortgage moratoriums for households which have lost a substantial part of income or jobs.

However, the likelihood for large loan losses for mortgages remains low due to the low loan-to-value (LTV) and a resilient property market.

However, should the possibility of a vaccine remain elusive, Lim believes “asset quality uncertainties are likely to weigh on Singapore banks through FY21F as central banks regionally balance between providing support to industries affected by the pandemic and ensuring banking system stability”.

To that end, banks are likely to continue booking provisions in anticipation of further loan losses.

“DBS/OCBC/UOB [are] guiding for 80-130 basis points ($3-5 billion), 100-130 basis points, and 120-130 basis points ($2-3 billion) of credit costs cumulatively over the next two years respectively (previously 50-60bps per year for next two years),” says Lim.

In 1H20, DBS, OCBC, and UOB, each booked $1.9 billion, $1.4 billion, and $0.7 billion of provisions respectively.

“Note that OCBC estimates its gross non-performing loan (NPL) ratio to increase to 2.5% to 3.5% while UOB sees its NPL ratio possibly doubling to 3.2%,” she adds.

Lim also noted that valuations for Singapore banks remain inexpensive compared to its peers in the region at a price-to-book value of 0.8x for FY21F, trading near -2 standard deviation (s.d.) valuations.

“We continue to prefer UOB to OCBC as a more defensive pick due to its larger domestic exposure, higher ROE and dividend yield,” she says.

Lim has recommended “buy” on UOB with a target price of $22.20, and “hold” on OCBC with a target price of $9.30.

As at 4.53, shares in DBS, OCBC, and UOB are trading $20.50, $8.57, and $19.37 respectively.