Singapore banks' earnings momentum to lose steam on funding costs, rate cuts

Singapore banks' earnings momentum is set to lose steam this year amid rising funding costs and a drag from possible rate cuts.

DBS Group Holdings Ltd., Oversea-Chinese Banking Corp. Ltd. (OCBC) and United Overseas Bank Ltd. (UOB) reported solid increases in net profit for the year ended Dec. 31, 2023, primarily due to higher net interest income. DBS, the largest bank in Southeast Asia by total assets, posted a 26% jump in its 2023 net profit to a record-high S$10.29 billion. OCBC reported net profit of S$7.02 billion, up 27% from a year ago, while UOB's net profit rose 25% to S$6.06 billion.

The city-state's banks are not likely to repeat the results in 2024, according to analysts' mean consensus estimates compiled by S&P Global Market Intelligence. Net income at DBS is expected to decline to S$9.94 billion in 2024, while UOB's net income will drop to S$5.86 billion. OCBC is the only lender likely to buck the trend, with its net income expected to edge up to S$7.12 billion in the period.

"We think earnings momentum for the Singapore banks have peaked," said Thilan Wickramasinghe, head of research at Maybank Securities Singapore. "The tailwinds enjoyed by rising interest rates in 2023 are unlikely to be sustained this year. Funding costs are catching up and the potential for rate cuts have increased."

Banks could face earnings pressure after benefiting from higher net interest margins (NIMs), as the US Federal Reserve and other central banks are expected to start cutting rates this year. The Monetary Authority of Singapore uses currency as its primary policy tool due to the dominance of external trade over the country's economy. It was among the first central banks in Asia-Pacific to initiate monetary tightening in October 2022 to counter rising inflation.

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Different environment

Singapore banks face a different environment in 2024 after reaping the rewards of higher interest rates for a couple of years, analysts said.

"This year the stars may not be quite so well aligned. Profitability for Singapore banks will likely compress after surging to near historical highs," S&P Global Ratings analyst Ivan Tan said in a March 5 report.

The interest rate hike cycle was beneficial for banks as the majority of their floating rate loans were quickly repriced upward while funding costs were contained, Tan said. This led to sizable interest margin gains and fueled interest income growth from banks' core lending business.

A US Fed pivot would crimp NIMs at the three banks. Tan expects NIMs to moderate to about 2% in 2024 and 1.8% in 2025, from 2.2% in 2023. The big three Singaporean banks saw healthy NIM improvement in 2023, with DBS showing the biggest movement, to 2.15% from 1.75% in 2022, Market Intelligence data shows.

Like analysts, top executives at the three city-state bank were cautious about the outlook for 2024. OCBC CEO Helen Wong said during the bank's earnings call on Feb. 28 that 2024 would "be a more challenging year than 2023" amid global uncertainties and economic growth slowdown.

OCBC expects its NIM in the range of 2.2% to 2.25% for 2024; UOB expects NIM to continue to hold around 2%; and DBS' NIM is likely to be under the 2.13% levels, the banks' executives said during recent earnings conference calls.

Another area to watch

In addition to margins, asset quality could become an area of concern for Singapore banks. While asset quality has "surprisingly been benign so far," prolonged high interest rates and slower growth could increase pressure on businesses. "This is an area to watch," said Maybank's Wickramasinghe.

While DBS' nonperforming loan (NPL) ratio for 2023 remained unchanged from a year ago, both OCBC and UOB improved their respective NPL ratios, according to Market Intelligence data. OCBC's NPL ratio improved to 1.00% from 1.20%, while UOB's ratio improved to 1.50% from 1.60 in 2022.

Ratings' Tan said higher interest rates could lead asset quality to deteriorate, as reflected in higher credit costs and NPL ratios.

"Yet while correlation between high interest rates and rising NPLs is seemingly intuitive, it has not played out thus far," Tan said. "Quite the opposite. Benign credit conditions and low delinquency have pushed reported NPLs to even lower levels."