DBS Group Could Continue To Deliver Returns, But Safety Margin Is Thin

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DBS Group has delivered a 19% total return in the last five months, outperforming expectations despite a previous Hold rating.The bank's Q2 net profit rose 6% YoY, with strong growth in net interest ...

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Seldom does the topic of the stock market come up, but in one of my conversations, a lady told me how well DBS Group (OTCPK:DBSDY) shares were doing. And she was right. DBS Group, South East Asia’s largest bank has been a very good place to be invested. In our last coverage on the bank back in May, we downgraded the share from a Buy to a Hold, based on our conclusion that the share price already priced in “only good news to come”. That was probably premature as the share has delivered a total return to shareholders of a respectable 19% in just the last five months. Let us look at what has happened to the bank since we last covered it. Latest Financials and what to expect from Q3 The bank delivered a net profit of SGD 2.79 billion in Q2, which was 6% higher than the same quarter last year. As we have pointed out on numerous occasions, the two main sources of income from banks are interest income and fee income. In addition, income from trading activities can also be substantial, but it is generally more volatile than the two main sources. In Q3 of 2024, DBSDY grew their NII, or Net Interest Income by 5% Y-o-Y to SGD 3.77 billion. DBS - NII in Q2 of 2024 (DBS CFO Q2 of 2024 Presentation) We do not expect to see any deterioration to the NII in Q3, although the interest rate level in Singapore has most probably peaked.   Singapore Overnight Rate Average (Data: Monetary Authority of Singapore, graph by author) For an industrial commercial property we own, DBS Group is now offering a renewal of the loan based on a floating rate mortgage with the interest being the SORA plus 0.75%. The commercial book fee income for the bank grew by 27% on a Y-o-Y basis to SGD 1.05 billion. Wealth management grew at an even more impressive rate of 37% Y-o-Y to SGD 518 million. As such, we do believe that even if the NIM, or Net Interest Margin, would come down somewhat, it is quite realistic that they can grow fee income to compensate for potentially lower NIM. On that topic, we need to realize that the total NII can still grow even with a lower NIM as the volume of business should increase with DBSDY growing their business in areas such as the Greater Bay Area in China, Taiwan, and India. One example of this growth comes from sales of investment products in China. The leading English newspaper in Hong Kong, South China Morning Post, reported in September that sales of its semi-liquid fund products to Greater China surged 300% from a year ago. Their balance sheet is healthy with a Non-Performing Loan ratio of 1.1% of their loan book. They set aside SGD 148 million in Q2 as allowances for credit and other losses. The total allowance reserves amounted to SGD 6.55 billion, which is 129% of Non-Performing Assets that are secured. Shareholder Return DBSDY is in our opinion shareholder friendly. They are the only Singapore bank that pays dividends quarterly, as opposed to twice a year. This is perhaps not that important, but for some retail investors who use dividend income as one part of their income, it is certainly welcomed by those. Furthermore, and more importantly, they have grown the dividend nicely, as can be seen from the dividend history below. DBS dividend history (DBS CFO Q2 of 2024 Presentation) In the first quarter of this year, they also gave shareholders a one-for-10 bonus share. After the bonus shares were issued, the number of ordinary shares increased from 2.588 billion to 2.846 billion shares. This dilution has not hurt the share price. Based on our low average share price of just SGD 20.70 we are getting a whopping 32.6% yield this year from DBSDY. If you were to buy DBSDY’s shares at this moment, and we assume the SGD 0.54 per share continues, the SGD 2.16 per year gives you a yield of 5.6%. The dividend is presently well covered as it is only 53% of the TTM EPS. New CEO In early August this year, when the bank presented Q2 results, they also announced that their longest-serving CEO, Piyesh Gupta, will retire in March 2025. He had already communicated in 2021 that he would step down upon reaching 65 years old next year. The board simultaneously announced that their present Head of Institutional Banking, Ms. Tan Su Shan, will take over the role and is now the deputy CEO up to March 2025. During the announcement, Ms. Tan said the following: Everybody has told me that Piyush has very big shoes to fill, and of course he does. But guess what? We wear different kinds of shoes, so our styles may be different, but some things will not change going forward” We are confined that Ms. Tan, with her 35 years of experience in consumer banking, wealth management, and institutional banking, will do a good job at running DBS. She knows the culture at DBS, having worked there for 14 years. At first, she spent the first three years building the wealth management unit before running the consumer banking and wealth business and the institutional banking division. These businesses account for 90% of the income. Fundamentals In our last analysis of DBS Group, we compared its fundamentals and valuation against its Singapore peers Overseas Chinese Banking Corporation (OTCPK:OVCHF) and United Overseas Bank (OTCPK:UOVEF) (OTCPK:UOVEY). Here is an update after Q2; DBS - valuation comparison with Singapore peers (Data from DBS, OCBC & UOB. Compilation by author) We are still of the opinion that all these three banks are good banks. They are conservative and well-managed. When we decided to add one Singapore-based bank to our portfolio back in 2020, the choice became DBSDY. The reason, at that time, was based on better growth potential for DBSDY with its presence in several important Asian trading and wealth hubs, like Hong Kong with its Greater Bay Area, Taiwan, and India. Risk to Thesis and Conclusion The largest risk to profitability is a deep recession. Their main markets, Singapore and Hong Kong’s economies, are dependent on trade, and to some extent visitors. In the medium to short term, we do have more concern about the economy in Hong Kong than that of Singapore. So far, the bank has not set aside more allowance for ECL in Hong Kong. Customer loans in Singapore are nearly four times larger than those in Hong Kong, but we will be monitoring the NPA from Hong Kong in the coming quarters. To conclude, one would be right to say that our Hold stance back in May might have been too conservative. The 19% total return it has delivered since then is certainly stellar. When we look at the fundamentals, DBSDY is not expensive at this level, except the P/B is quite high. However, at SGD 38 level per share, the safety margin it offers is not sufficient for us. We will continue to hold the shares, but will not add more at this level. Let us end by circling back to our hot investment tip at our recent cocktail party. We pay no attention to all the investment tips we get from strangers. There are many. Nevertheless, the lady was right in saying that the bank’s share has been doing well. We hope that it will continue to do so.  Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. 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