Deutsche Bank Markets Research Asia Hong Kong Banking / Finance Banks Industry HK vs. SG banks Date 8 January 2018 Industry Update Outlook 2018: which sector fares better? Strong performance in 2017: can this be repeated? ________________________________________________________________________________________________________________ Deutsche Bank AG/Hong Kong Deutsche Bank does and seeks to do business with companies covered in its research reports. Thus, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. DISCLOSURES AND ANALYST CERTIFICATIONS ARE LOCATED IN APPENDIX 1. MCI (P) 083/04/2017. Franco Lam Research Analyst (+852 ) 2203 6226 franco.lam@db.com Joshua Lee, CFA Research Analyst (+65 ) 6423 5723 joshua.lee@db.com Top picks DSBG (2356.HK),HKD17.72 Buy Dah Sing Financial (0440.HK),HKD53.40 Buy United Overseas Bank (UOBH.SI),SGD27.02 Buy Source: Deutsche Bank Companies Featured DSBG (2356.HK),HKD17.72 Buy 2016A 2017E 2018E P/E (x) 9.0 10.5 10.1 Div yield (%) 2.7 2.5 2.7 Price/book (x) 0.9 1.0 0.9 Dah Sing Financial (0440.HK),HKD53.40 Buy 2016A 2017E 2018E P/E (x) 8.7 3.1 9.3 Div yield (%) 2.7 15.5 2.9 Price/book (x) 0.8 0.8 0.8 United Overseas Bank (UOBH.SI),SGD27.02 Buy 2016A 2017E 2018E P/E (x) 9.9 13.2 11.5 Div yield (%) 3.8 2.6 2.8 Price/book (x) 1.0 1.2 1.2 Source: Deutsche Bank We value HK and SG banks on average of GGM and STOP basis. Key risks include: property price crash, sever asset quality deterioration. More details page 20. We saw strong share price performance from HK and SG banks in 2017, with absolute share price returns of 34% and 38%, respectively, the best since 2009 due to expectations of an improving earnings outlook with better NIMs in a higher rates environment, non-interest income strength, stable asset quality trends and strong capital ratios. Heading into 2018, while most of these catalysts are known and partially priced in, we think SG banks still appear more attractive than HK banks. UOB and the Dah Sings are our top picks. Three focus themes and one catalyst to drive the sectors in 2018 Three themes still stand out as the key focus points for investors this year:  Net interest margins: The margin trend favored HK banks more last year. However, not all of the increase was driven by higher rates in HK. Moreover, we believe margin upside in HK could be capped by new loan competition and finally a pick-up in cost of funds. Rates transmission should stay low, with only NIM steadily improving for both systems.  Asset quality: Both banking systems seem sound in FY18, and we believe the rest of the SG banks could “kitchen sink” vulnerable lending. As a result of a stable macro environment, asset quality should stay at low levels despite IFRS9. However, for SG banks, as MAS no longer allows GP buffering, we expect a lower level of GP going forward, hence improving their RoAE. Given their existing higher level of GP buffer, the sector would also be less affected by the longer-term negative implications of IFRS9.  Capital ratios: HK banks’ higher capital ratios were boosted by their higher IRB model utilization, with the lowest risk weight density in the region. The key risk is that when the asset quality cycle worsens, RwA would move up at a much steeper pace, with higher EL/LGD estimation. Aside from that, capital consumption for the sector would be much greater in supporting mainland corporate expansions, while SG banks’ domestic/retail market focus should leave more room for capital management going forward.  Wealth management (WM): While HK banks’ lending growth should outpace that of SG banks this year, most were corporate/Chinese SOEs driven to where margins could stay low. WM should provide better upside potential, as it has less capital consumption and is positively geared to rising wealth in the region – a segment that investors are willing to pay for at a higher multiple. SG banks have a stronger momentum in the WM business, which will likely be a key catalyst. For details, please refer to our recently published note on SG banks, “Retail franchise mispriced vs. HK banks?” Valuations: more stretched for HK than for SG banks While the higher rates should benefit HK & SG banks, this fact is known and has been largely priced into share prices as well as earnings. Relative to HK, we believe upside potential remains for SG banks, as supported by more earnings upgrade potential (+12% vs. 7%) in 2018 as opposed to more valuation multiple expansions for HK banks. . Distributed on: 07/01/2018 22:33:28 GMT7T2se3r0Ot6kwoPa 8 January 2018 Banks HK vs. SG banks Page 2