4Q18 Points to Structural Issues Yet to be Resolved

• OVERSEA-CHINESE BANKING CORP (SGX:O39, OCBC)'s core-2018 net profit was in line with our estimate and below consensus. 4Q18 earnings fell 10% y-o-y and 26% q-o-q due to weaker insurance income and higher credit charges.
• While NIM improved and loan growth was resilient, these won’t adequately mitigate volatility in OCBC’s non-interest income contribution, which is a structural issue that remains unresolved (it makes up 40% of total income, a higher proportion than peers).
• Higher credit charges and funding costs guidance from management has led us to lower our 2019/20E earnings by 7%/3% and our multi-stage DDM Target Price by 2% to SGD10.73 (COE 9.7%, 3% terminal). With 6% downside to our revised target price and a lack of upside catalysts, we maintain HOLD.
• We prefer DBS GROUP HOLDINGS LTD (SGX:D05) for improving margins and strong execution.

Earnings Volatility Limits Visibility

• Insurance income fell 20% y-o-y in 4Q18 and trading income dropped 91% y-o-y. OCBC’s dependence on market-linked income generation leads to higher volatility viz-a-viz its peers. This limits visibility, especially in the current volatile market backdrop, in our view.

Asset Quality Needs to be Watched

• NPLs increased 12% y-o-y, particularly in general commerce and construction. Management claims these were specific corporate accounts and systemic pressure has not become elevated.
• Nevertheless, we have raised our credit charge assumptions to 12-15bps for 2019/21E in line with management guidance. This still puts OCBC behind peers in provisioning.

Potential M&As Add to Integration Risks

• At SGD0.43, OCBC’s dividend came in below our and consensus expectations. The group is offering a scrip dividend at a 10% share price discount. This is typically done to shore up CET1 capital. Yet with CET1 of 14%, OCBC is already above peers. Management claims this capital may be used for “offense” if the right opportunities arise in the current cycle.
• OCBC’s operating profits/assets has lagged by 20bps vs. UOB (SGX:U11) in the past five years, despite similar regional footprints. In our view, this points to OCBC’s earlier M&A lagging in achieving the expected benefit at full integration. New assets will add to this uncertainty, we believe.

Source: Maybank Kim Eng Research - 25 Feb 2019