<h3>The Edge Billion Dollar Club 2017</h3>

(Oct 23): To many analysts and investors, the finance sector consists of just the three local banks: DBS Group Holdings, Oversea-Chinese Banking Corp and United Overseas Bank, all of which have huge market capitalisations.

But there are actually two other very sizeable companies in this category: insurer Great Eastern Holdings and local stock market operator Singapore Exchange.

This year, in an unusual twist, OCBC and SGX tied for first place in this category.

The two companies are, of course, in very different businesses. And, they achieved high overall scores that just happened to be the same for very different reasons.

SGX had the highest weighted return on equity over the last three years by a long way. It also had one of the highest scores in terms of stock return.

On the other hand, OCBC had only a middling score for its stock return over the last three years, and a reasonably high score for its weighted ROE. It was, however, the highest scorer in terms of net profit growth over the three-year period.

Among the three local banks, OCBC beat its peers on net profit growth and weighted ROE. But DBS was tops on stock return. On overall score, OCBC was first, followed by DBS and then UOB.

However, looking at their actual stock returns, net profit growth and weighted ROEs, the differences were not really all that large.

That is not surprising as all three banks have been struggling in the face of the same headwinds over the last couple of years: Loan growth has been tepid because of soft demand, net interest margins have been under pressure because of low interest rates, and bad loan provisions have soared on defaults in the oil and gas sector.

Indeed, all three banks reported earnings declines for FY2016, in part because of higher provisions.

DBS recorded a 2% y-o-y drop to $4.238 billion as allowances for bad loans surged 93% to $1.434 billion.

OCBC reported an 11% y-o-y decline in earnings to $3.473 billion as total provisions rose 40% to $822 million.

Meanwhile, UOB reported a 3.5% y-o-y slide in earnings to $3.096 billion, even though its allowances for bad loans fell 11.6% to $594 million.

<strong>Wealth management, technology</strong><br>Yet, the three banks are differentiating themselves in various ways.

Notably, the key reason OCBC had stronger net profit growth than its peers over the last three years was because it completed its acquisition of Wing Hang Bank in August 2014. As a result, OCBC’s net profit after tax rose 39% y-o-y to $3.842 billion in FY2014.

In FY2015, OCBC had the benefit of a full year of contribution from Wing Hang, which accounted for 8% of its earnings.

However, OCBC’s net profit rose just 2% y-o-y to $4.001 billion. This is because OCBC booked a one-off gain of $391 million in 2014 following a change in the way it recognises contributions from the Bank of Ningbo.

The Chinese bank became a 20%-owned associate in 2014. OCBC previously classified Bank of Ningbo as an investment.

Now, the three banks are also trying to expand their wealth management businesses.

For 1HFY2017, OCBC reported an 18% y-o-y rise in earnings to $2.05 billion, buoyed in part by a doubling of contributions from Great Eastern Holdings, to 23% of total earnings from 11% in 1HFY2016. Income from wealth management was up 51% y-o-y to $1.51 billion, accounting for 33% of total income of $3.96 billion, which was up 6%.

OCBC integrated Barclays’ wealth and investment management unit with its private bank unit Bank of Singapore in December last year. As at June 30, Bank of Singapore had assets under management (AUM) of US$89 billion ($120.6 billion).

DBS has been making acquisitions in this field too.

For instance, in 2014, it acquired the Asian private banking business of Société Générale, paying some 1.75% for the US$12.6 billion AUM.

This year, DBS will integrate $6 billion of private banking AUM from Australia and New Zealand Banking Group, which will lift its pro forma AUM to $177 billion (this includes DBS Treasures Private Client accounts). In 2010, its private banking business had AUM of $40 billion.

DBS’s income from private banking and wealth management rose 27% to $1.03 billion in 1HFY2017, accounting for 17.6% of the group’s total income, up from 13.9% in 1HFY2016. Total income was only marginally higher at $5.81 billion. For 1HFY2017, DBS reported a 5% y-o-y rise in earnings to $2.37 billion, which was below the street’s expectations.

For its part, UOB reported 1HFY2017 earnings of $1.65 billion, up 5.5% y-o-y. The bank said its fee and commission income rose 13% to $1.03 billion, driven by stronger performance from credit card, fund and wealth management products. This accounted for 23.8% of total income for 1HFY2017, up from 22.7% of total income in 1HFY2016.

Another potentially big factor in the future performance of the banks is technology. On the one hand, a host of new fintech companies are emerging, with products and services that could eat into some of the key businesses of the banks.

On the other hand, the banks have been investing heavily in various technology initiatives, which has elevated their costs in recent years.

For instance, DBS has invested more than $5 billion over the past few years on technology.

OCBC spends an average of 11% to 13% of its total expenses on technology. In FY2016, total operational expenses were $3.788 billion.

UOB’s technology spend is estimated at $250 million to $300 million annually.

DBS had a cost-to-income ratio of 43% for FY2016, while OCBC’s was 44.6% and UOB’s 45.9%. It remains to be seen how effective these investments are in driving their growth and efficiency.

<strong>SGX’s defensive business</strong><br>It is unlikely, however, that the banks will ever generate ROEs comparable to that of SGX, because of regulation.

The Basel Committee on Banking Supervision requires a minimum core Common Equity Tier 1 capital ratio of 6.5% for all banks.

The Singapore banks carry CET1 ratios of close to twice the minimum requirement in order to maintain strong credit ratings, which enable them to tap the market for cheap funding.

For instance, all three banks have raised covered bonds at well below fixed deposit rates.

SGX has a more defensive business than the banks, being the only multi-asset exchange in Singapore.

For the three financial years to June 30, 2016, SGX achieved annualised net profit growth of 7.84%. For FY2017, however, its earnings fell 3% y-o-y to $340 million.

During the FY, SGX acquired the Baltic Exchange for £87 million ($155.6 million). It also disposed of its investment in the Bombay Stock Exchange for a loss of $4 million.

Since its FY2017 results announcement, SGX has made the headlines with its currency futures contracts, chalking up record volumes for trading in the Indian rupee and offshore Chinese renminbi against the US dollar.

SGX claims its USD/CNH futures contract is the most traded listed offshore RMB futures contract in the world.

In the past couple of years, SGX has also been trying to expand its bond trading business. One of its aims is to be the main offshore trading hub for G3 dollar bonds.

“We aim to provide issuers with greater access to wholesale fundraising and price discovery through our bond trading platform BondPro,” SGX says. “Our Fixed Income business has turned in a record performance, with 819 bond listings raising $384.7 billion, up 135% and 124% respectively from FY2016. Since we launched our SGX BondPro trading platform in 2016, we have seen encouraging client adoption and transaction volumes, supporting our aim to be the leading provider of liquidity for Asian fixed income.”

<strong>PCRD rallied sharply</strong><br>Finally, a word about Pacific Century Regional Developments, which achieved the third-highest overall score in the finance category.

The company, which is almost 89.6%-owned by Hong Kong billionaire Li Ka-shing’s second son Richard Li, is not a financial institution. It had an insurance company that is now no longer an integral part of the business.

In any case, it is most known for its 22.7% stake in Hong Kong-listed PCCW, a media and mobile telecommunications company.

PCCW in turn owns 51.97% of HKT. The share-stapled units of HKT Trust and HKT are listed in Hong Kong.

PCRD’s relatively high overall score was due to its topping the finance category in terms of stock return and coming in second place on net profit growth over the last three years. Interestingly, it was not in the Billion Dollar Club last year.

Its market cap at this year’s cut-off date of March 31 was $1.007 billion.

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Unusual twists: OCBC, SGX claim joint first place, and PCRD makes appearance

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