HSBC (HSBC) reported 4Q results where underlying revenue missed street’s estimates by 7%, net interest income by 2%, and non-interest income by 12%. Weak exit net interest margin and income put earnings for 2019E at risk to miss consensus estimates. Lower CET1 ratio reduces the ability to do buybacks, but dividend is still safe. At current levels, valuation is not attractive.
Weak 4Q casts a shadow as we enter 2019
Net interest margin declined to 1.63% in 4Q from 1.69% in 3Q or 1.67% for 9M2018. This was mostly because of the drag of the UK business while HK deposit costs rose. Further, LIBOR-HIBOR spread widened by 1.22% since January due to expectations of fewer/no rate hikes by the Fed and weakening HK mortgage/loan market.
Management commented on a strong January, but I think most of it was due to strong equity/property markets in HK that might have lifted fees income from trading and asset management.
Hong Kong makes up of 31% of revenues
Hong Kong and China together contribute about 31% of revenue and 72% of PBT. Despite the resurgence in equity and property markets in HK, property transaction volume remains subdued which will reduce mortgage demand, HSBC’s bread and butter business in HK. Macroeconomic conditions in China which spill over to HK are weak with PMI and PPI all declining.
Easing monetary conditions in China facilitate more corporate loan growth, but this also attracts more competition among banks. As HSBC serves large Chinese corporates, intensified lending environment may lead to lower lending rates.
Outlook for HK and China is weak, and January momentum should not be extrapolated for FY19E.
Source: Company 4Q presentation
China Manufacturing PMI still below 50 (contraction territory)
Source: Trading economics
China PPI decelerating
Provisions were increased to include a US$165m charge related to Brexit. In addition, UK NIM was down 9bps in FY18 vs. 9M18 due to liquidity build-up and the reallocation of trading assets into short-term liquid instruments. There might be some deterioration of assets, given that some sectors where HSBC might have loaned could take a hit if Brexit was harder than expected.
Capital, Buyback, and Dividends
With CET1 ratio now at 13.9% below the target of 14% , HSBC no longer is in surplus capital to buy back its shares of $1.5bn expected by the market. The dividend of 51c should be relatively safe, which equates to 6% dividend yield. The dividend should provide support for the stock.
Valuation: Not attractive
Given that HSBC is trading at par forward book value with 9% 2019E ROE, it should not be considered as attractive. A 6% dividend yield should provide downside protection for the stock, but buyback visibility is now limited.
Macroeconomic risks such as inflation, GDP growth, FX, interest rates, and geopolitical risks.
Capital markets environment could increase or decrease trading and fees income.
UK/Brexit uncertainty could lead to asset deterioration.
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