DBS Bank pays a 6.1% dividend yield – Best Singapore stock to buy? Better than OCBC and UOB Bank?

  I’ve been getting a lot of comments from readers on how DBS Bank is the best Singapore stock to buy. With some even going so far as to say that DBS Bank is the only Singapore stock worth buying (and the rest of the money should go into US stocks instead). So I wanted […]
The post DBS Bank pays a 6.1% dividend yield – Best Singapore stock to buy? Better than OCBC and UOB Bank? appeared first on Financial Horse.

I’ve been getting a lot of comments from readers on how DBS Bank is the best Singapore stock to buy.

With some even going so far as to say that DBS Bank is the only Singapore stock worth buying (and the rest of the money should go into US stocks instead).

So I wanted to relook DBS Bank.

At 7.1% dividend yield today, is DBS Bank indeed the best Singapore stock to buy – and better than OCBC and UOB Bank?

Why DBS Bank is still cheap at this price (1.7x book value)?

In one of my previous articles on DBS Bank, I shared that DBS Bank trading at 1.70x book value was a concern for me.

We are late in the business cycle, where the next move from the Feds is likely to be an interest rate cut.

With uncertainty over global economic growth.

And with DBS trading at 1.70x at the higher end of its trading range, this didn’t exactly strike me as the point where I would want to open a big position in DBS Bank.

Why DBS Bank may still be undervalued if you look at ROE? Comment from a Reader

My comments were more from a macro perspective.

In that article, I received an absolutely fantastic comment (no kidding it’s really good).

The comment basically shared how Book Value may not be the right way to value DBS Bank.

And that if you use Return on Equity (ROE), the valuation premium for DBS Bank is justified.

I don’t want to spoil it for you, so here’s the comment in its entirety (lightly edited for clarity).

I do recommend reading it in full, but if you want to skip I share my summary below.

*************************************************************

“Hi FH. Been a regular reader of your posts. First time leaving a comment here. Hope you don’t find me too long winded.

You have missed out an important metric for banks analysis which is Return on Equity (ROE). ROE is a function of Price/Earnings (PE) and Price/Tangible Book (PTB).

Market prices DBS at 1.65x PTB because its ROE is 18% last year. UOB and OCBC PTB is 1.2x because their ROE is around 14%. However, all three have the same PE around 9x.

Hypothetically if DBS can achieve ROE of 25% and has a rich PTB of 2x, it is actually cheaper as PE is only 8x. PTB alone is only half of the story.

DBS has a structurally 4% ROE outperformance vs peers due to:– higher CASA ratio.– higher non-interest income which requires less capital.– superior tech

Question is can DBS defend 18% ROE? With interest rate coming down, probably no. But Piyush Gupta has commented many times that their modelling indicates DBS can achieve 15-17% ROE in next 3-5 years if interest rate does not plummet to zero like in the past.

If we assume middle ground 16% ROE is sustainable, market is now ascribing 1.65x PTB, which equates to PE 10x. It is not expensive for a well-run bank which can stand shoulder to shoulder along global peers.

For perspective, DBS 18% ROE is 7th highest in the world’s top 100 banks. Beating even JP Morgan, Goldman, Citi, HSBC, StanChart, BNP Paribas, Deutsche, NAB and many more.

Moreover historically SG banks have the lowest NIM among the developed countries. Past 20 years average SG banks NIM is 1.7%. UK and AUS is 1.9%. US is 3.4%. To achieve world beating high ROE with low NIM, DBS must be doing something right with Piyush Gupta at the helm.

Going forward, DBS has clearly communicated post bonus issue, it will raise dividend by $0.24 p.a for the next 2-3 years at the minimum. Hence using share price of $34 post bonus issue, 2025 dividend of $2.40, yield is 7%. With 2026 dividend of $2.64, yield is 7.8%. This is the baseline. Risk is on the upside.

Is the high dividend sustainable? Yes, because DBS business mix requires less capital now. It can comfortably give out 70% dividend payout ratio and still grow its business nicely.

More importantly, CET1 is now at 14.6%. During the tech disruption, MAS penalised DBS and increased its RWA Operational Risk Multiplier to 1.8x. When this tech penalty is eventually lifted off (OCBC tech penalty is lifted off this year), CET1 will be bumped up to 15.51%. From 15.51% to optimal CET1 target of 13%, it means DBS has $9.2bn of excess CET1 capital.

During Covid years, DBS has also built up $2.2bn of Management Overlay which is over and above of what is required of GP. This amount is totally untouched yet.

All in, DBS may have excess capital of approx $11bn which can be returned to shareholders and still be able to run its banking operations optimally.

Remember DBS world beating 18% ROE? This ROE is actually dragged down severely by the excess $11bn capital. Hypothetically if DBS has returned all this $11bn excess capital to shareholders last year and with the same net profit, actual ROE would be 22.6% instead of 18%.

Judging DBS by 1.65x PTB alone is missing the forest for the trees. At current price, we are getting a world class bank with:

Actual ROE 22%PE 10xSustainable forward dividend of above 7%

Not pricey at all.”

Breaking down the arguments – Why DBS Bank is cheap at 1.7x book value?

Like I said, absolutely fantastic comment.

This reader basically wrote the whole article for me.

I break down the arguments into 3 key points below:

1. DBS has a structural ROE advantage over peers like UOB and OCBC Bank

DBS’ 18% ROE in 2022 was significantly higher than peers UOB and OCBC (around 14%)

This 4% ROE outperformance is driven by higher CASA ratio, more non-interest income, and superior technology

CEO Piyush Gupta expects DBS to sustain a 15-17% ROE over the next 3-5 years (even with lower interest rates), which would still exceed peers

2. DBS is attractively valued considering its high ROE and dividend yield

At the current 1.65x Price-to-Book and assuming a sustainable 16% ROE, DBS is trading at just 10x Price-to-Earnings

This is inexpensive for a bank that generated the 7th highest ROE among the world’s top 100 banks in 2022

DBS plans to raise dividends by $0.24 per year, implying a 7-7.8% dividend yield by 2025-26 based on the current share price

3. DBS has significant excess capital that could further boost ROE and shareholder returns

DBS has around $11 billion in estimated surplus capital from a high CET1 ratio and conservative provisions

This excess capital is currently depressing DBS’ ROE – adjusting for it, the bank’s 2022 ROE would have been 22.6% instead of 18%

Returning this excess capital to shareholders could drive even higher ROEs and dividend yields going forward

These 3 arguments have been very well presented by the reader, so I won’t belabour the point.

I will try to supplement his arguments below, and provide an alternative angle on DBS Bank.

DBS’s ROE is indeed way higher than OCBC/UOB, and other major global banks

For the record, here’s the ROE of DBS Bank compared vs OCBC / UOB Bank, and other major global banks.

You can see indeed how DBS’s 18.75% ROE is significantly higher than both local banks.

Even against global banks like JP Morgan, DBS Bank fares very well.

Bank

ROE

DBS Bank

18.75% (Q1 2024)

OCBC Bank

14.0% (Q1 2024)

UOB

14.7% (Q1 2024)

JP Morgan

16.15% (Q1 2024)

Credit Suisse

16.1% (2022)

Goldman Sachs

14.04% (Q1 2024)

HSBC

12.58% (TTM as of June 2024)

Standard Chartered

11.18% (Q1 2024)

DBS Bank’s net profit growth outperforms UOB and OCBC Bank

You can also see how DBS Bank’s 15% growth in net profits is significantly higher than UOB Bank and OCBC Bank

Metric

DBS Bank

UOB Bank

OCBC Bank

Net Profit

S$2.96B

S$1.49B

S$1.98B

YoY Change

+15%

-1.6%

+5%

Net Interest Margin

2.14%

2.02%

2.27%

Return on Equity

19.4%

14.0%

14.7%

P/E Ratio

10.0

9.2

9.2

Non-Performing Loans Ratio

1.1%

1.5%

1.0%

And yet if you look at net interest income – it is mostly flat.

So what is driving the outperformance in profit growth vs UOB / OCBC?

Biggest contributor to DBS’s growth is due to Wealth Management

It turns out the reader is absolutely right – it’s the non-interest income.

And if you look at the breakdown in the fee income.

You’ll find that the biggest growth is coming from wealth management.

Wealth management income is up a whopping 47% on a year on year basis.

In fact DBS says that they are targeting to grow their wealth management AUM to $500 billion by 2026 (up from $365 billion currently).

If true, this implies further upside from the wealth management business.

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DBS Bank’s wealth management compared against OCBC and UOB Bank

Here’s how DBS Bank’s wealth management business stacks up against OCBC and UOB Bank.

You can see how DBS Bank’s growth is the highest of the 3 banks.

However as a percentage of its total income, DBS’s is the lowest at only 9.6%.

While OCBC is the highest at 36% because of its Great Eastern arm.

Bank

Wealth Management Fee Income Growth

Assets Under Management (AUM) Growth

Wealth Income as % of Total Income

DBS Bank

+47% YoY to S$536M

+36% YoY to $365B

9.6%

UOB Bank

+5% YoY to S$164M

+11% YoY to S$179B

16%

OCBC Bank

+19% YoY to S$1.29 billion

+4% QoQ to S$273B, +1% YoY

36%

I suppose like the reader said, this is a good thing.

This implies that if DBS executes well on the wealth management business – there is plenty of room for growth.

You can see by contrast OCBC’s wealth management business is growing much slower than DBS Bank.

Comment was provided in late April – DBS Bank’s share price was about $35 then

Just to provide some context about price.

This comment was provided around late April when DBS Bank traded at about $35.

Share price has been mostly flat since.

But if the reader above is right, there may be further upside for DBS Bank.

How much upside?

What is the upside for DBS Bank, assuming all of the above is true?

Let’s say we use the reader’s assumption of 0.24 increase in dividend each year.

This implies a $2.64 dividend in 2026 (0.24 increase a year).

If you assume the share price trades at a 6% dividend yield in 2026, that implies a share price of $44 (25% upside).

If you assume the share price trades at a 7% dividend yield 2026, that implies a share price of $37.5 (6% upside).

DBS trades at a 6.1% dividend today.

Meaning that if the reader’s assumption plays out, and market continues to value DBS bank at 6% dividend yield – there could be decent upside here.

How likely is this?

What market conditions do we need for these valuation levels to hold for DBS Bank?

For market valuations to hold at current levels, you would probably need market conditions that are good for banks.

Broadly you would want to see:

Inflation staying high
Interest rates staying high (no drastic cuts)
Economic growth holding up

This is assuming interest rates stay high(ish), and no major economic slowdown

How likely is this is frankly anyone’s guess.

I wrote an article for FH Premium subscribers this week, sharing how latest US data is pointing towards a weakening economy.

Inflation numbers are coming in below expectations, while unemployment is coming in above expectations.

It’s fairly clear that economic growth in the US is slowing.

But the million dollar question is whether this will accelerate in the next 6 – 12 months.

Does it accelerate into a full blown recession, or does it just stay as a transitory slowdown followed by a pickup after the US elections?

Don’t forget the outcome will depend a great deal on how policy makers react.

Not to mention that if Trump wins the Nov elections, I could see a roaring US economy that translates into more sticky inflation and interest rates staying high.

Can DBS continue to execute? Is this conditional on Piyush Gupta being around?

The final risk worth discussing is execution risk.

Yes, DBS has been executing very well of late, as shown in their outperformance vs UOB and OCBC Bank.

Will this continue?

How much of their current growth is attributable to Piyush Gupta’s leadership, and how much of it is conditional on him being around?

Again, I don’t know the answer to this one.

Metric

DBS Bank

UOB Bank

OCBC Bank

Net Profit

S$2.96B

S$1.49B

S$1.98B

YoY Change

+15%

-1.6%

+5%

Net Interest Margin

2.14%

2.02%

2.27%

Return on Equity

19.4%

14.0%

14.7%

P/E Ratio

10.0

9.2

9.2

Non-Performing Loans Ratio

1.1%

1.5%

1.0%

The more I think about it, the more it comes down to a macro vs micro debate.

The reader’s argument comes from a micro perspective of why DBS Bank is a great company, firing on all cylinders.

My argument comes from a macro perspective of us being very late in the business cycle, and if the cycle turns the market usually sells first and ask questions later.

Both arguments can be right.

I suppose it comes down to this.

If I wanted to buy banks, DBS Bank is probably one of the best buys out there.

The question is whether I want to buy banks, and how much banks do I want to own at this stage of the business cycle?

But for the record, I can buy the reader’s argument.

If the economic slowdown does not play out into a broader recession, and interest rates don’t get slashed.

I could well see DBS Bank executing well the next 2 years, and decent upside for DBS Bank.

So who knows, I may just buy more DBS Bank.

This article was written on 21 June 2024 and will not be updated going forward.

For my latest up to date views on markets, my personal REIT and Stock Watchlist, and my personal portfolio positioning, do subscribe for FH Premium.

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   I’ve been getting a lot of comments from readers on how DBS Bank is the best Singapore stock to buy. With some even going so far as to say that DBS Bank is the only Singapore stock worth buying (and the rest of the money should go into US stocks instead). So I wanted
The post DBS Bank pays a 6.1% dividend yield – Best Singapore stock to buy? Better than OCBC and UOB Bank? appeared first on Financial Horse.