BANKS (Overweight) Sector Update: Stick With The Big Boys

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BANKS (Overweight) Sector Update: Stick With The Big Boys

Banks’ valuations have now risen above historical means, although they remain below recent years’ peaks. Major banks’ superior metrics relative to their smaller peers widened in 4QFY13 and we foresee this to continue in 2014. Market overhang on Jokowi’s presidential nomination is now removed, but uncertainties remain and we continue to see 2014 as a challenging year for banks. We recommend sticking to the major banks. Our Top Pick is BBRI.

¨       Big is better. The big banks have produced superior metrics relative to their smaller rivals and this divergence widened in 4QFY13. Net interest income (NII) of the top four banks grew 12% q-o-q (27% y-o-y) versus 1% q-o-q contraction (8% y-o-y) for other banks under our observation, boosting major banks’ net interest margins (NIMs). Better efficiency and stronger fee income profiles also allowed major banks’ pre-provision operating profit (PPOP) to grow by 12% q-o-q (27% y-o-y) versus 4% q-o-q contraction (10% y-o-y) in other banks. We believe this trend will continue in 2014 and we continue to prefer exposure to the major banks.

¨       Liquidity remains tight, major banks command superior pricing power. Loan-to-deposit ratio (LDR) remains high at 94% in January while our conversations with banks suggest that funding is the most significant challenge this year. We gather that special time deposit rates remain high, further highlighting tight liquidity. The prospect of Bank Indonesia (BI)’s rate hike (between 25-75bps this year) could add further pressure on funding costs. We believe major banks would fare much better as they command superior loan pricing power and have better liquidity.

¨       Asset quality to be put to the test. Major banks’ non-performing loans (NPL) growth of 11% y-o-y outperformed the industry’s 15% y-o-y. Their declining NPL ratios reflected their superior asset quality. The real test on asset quality lies ahead where borrowers digest slowing economy and higher rates. We expect an aggregate 15% growth in net credit costs (104bps over loans) in 2014 with better positioning towards major banks, which have packed ample NPL coverage ratios.

¨       OVERWEIGHT on banks. We are OVERWEIGHT on banks, upgrading Bank Central Asia (BBCA IJ, TP: IDR12,000) to BUY while downgrading Bank Tabungan Negara (BBTN IJ, TP: IDR1,100) and Bank Danamon Indonesia (BDMN IJ, TP: IDR3,700) to SELL. Our Top Pick is Bank Rakyat Indonesia (BBRI IJ, TP: IDR12,000).

Best regards,

RHB OSK Indonesia Research Institute