DBS can challenge smaller HSBC – with help from the Fed

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The battle for Asia’s preeminent financial institution will be fought with the Federal Reserve supplying ammunition to both sides. How much each can profit from US monetary tightening could ultimately decide whether Hong Kong’s biggest bank, HSBC Holdings Plc, remains whole and dominant. Or if Singapore’s biggest lender, DBS Group Holdings Ltd., tries to cause a surprise.

Around the world, rising interest rates are strengthening banks’ net interest margins. For the June quarter, Singapore’s DBS on Thursday reported a better-than-expected 7% jump from a year earlier to S$1.82 billion ($1.3 billion), chief executive Piyush Gupta achieving a return on equity of 13.4%. Noel Quinn, his counterpart at HSBC, is only aiming for a return on tangible equity of more than 12% by next year. by its major shareholder, Ping An Insurance Group Co., to spin off the Asian business.

The call is finding growing support among mum-and-pop shareholders in Hong Kong, who are upset by dividends that are only half of what they were in 2018 – after being dropped for a year under the UK regulatory instructions in 2020 when the pandemic hit. Any dissolution of the bank would jeopardize the $1.1 billion in first-half revenue from global banking and customers in markets in Europe and America, but earmarked in Asia. Not only does that amount represent 14% of the division, but it grew twice as fast as the overall pie, according to Quinn’s presentation.

That’s why it’s important for him to hit the target of $37 billion in net interest income next year, up from $26.5 billion last year. Almost all of the increase should come from improved margins: HSBC needs help from the Fed to earn more, restore its quarterly dividend and raise the payout ratio to 50% to appease investors. DBS will also enjoy higher rates, but Gupta has an added advantage. Its home market of Singapore – particularly the buoyant real estate market – is less threatened by the higher interest charge for home buyers. Hong Kong real estate sentiment is much weaker, while commercial real estate exposure from mainland Chinese developers is a big threat to lenders.

In other words, the relative fortunes of HSBC and DBS can be boiled down to what the global interest rate cycle is doing to the two rival Asian financial centers that fueled their rise. “Credit charges are most likely to inflate for the Hong Kong banks we cover” in the second half of 2022, according to Bloomberg Intelligence analyst Francis Chan. As Hong Kong’s economy heads for its third contraction in four years, mortgage demand and wealth management fees could disappoint, even as higher interest rates lead to markdowns on investment portfolios insurance and bonds. “Weaker-than-expected growth in loans and non-interest income could offset our optimistic assumptions for margins,” Chan wrote.

DBS also has exposure to Hong Kong and China, and its wealth management fees also fell in the first half of 2022 due to weak markets. But it has a large loan loss cushion. More importantly, it will be a net winner to be the #1 bank in Singapore. When it comes to attracting capital, talent, and trade, the city-state’s rapid post-pandemic reopening has put it in a much better position than its rival. Even before Covid-19, Hong Kong – and HSBC – found themselves in the crossfire of the US-China cold war. Today, it is China’s special administrative region’s isolationist travel restrictions that are forcing it to relinquish its historic role as a global financial hub. This change alone may be powerful enough to alter the pecking order of Asian banks.

Does DBS need a footprint outside of Asia to challenge HSBC, which is almost six times larger in terms of total assets? Not really, especially if the latter capitulates itself under pressure from Ping An and decides to de-globalize and split up. DBS is strengthening in the region: the exit of Citigroup Inc. from distribution activities in Asia excluding Singapore and Hong Kong has already given Gupta the keys to the Taiwanese consumer bank that he wanted to buy. Once the integration is complete, a larger Chinese loan portfolio, approaching $100 billion, would give the Singaporean lender significant clout in North Asia, complementing its already strong presence in Southeast Asia and India.

Still, it’s entirely possible that aggressive action by the Fed could spoil the party for both HSBC and DBS. Gupta’s post-earnings presentation was cautious. His base case is that US interest rates peak at 3.5%-4%, tempering inflation and causing only a mild recession. The ripple effects on Asia will likely be contained, he says, with a manageable depreciation of local currencies. These assumptions are all up for grabs, as is the competition for Asian banking supremacy.

More from Bloomberg Opinion:

• HSBC promises unlikely to satisfy Ping An: Paul J. Davies

• Singapore’s Beverly Hills shows a sign of moss: Andy Mukherjee

• Fed can’t stop bond traders’ wishful thinking: Jonathan Levin

(1) For both banks, return on tangible equity has been about 1 percentage point higher than return on common equity in the recent past.

This column does not necessarily reflect the opinion of the Editorial Board or of Bloomberg LP and its owners.

Andy Mukherjee is a Bloomberg Opinion columnist covering industrial companies and financial services in Asia. Previously, he worked for Reuters, the Straits Times and Bloomberg News.

More stories like this are available at bloomberg.com/opinion

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