Share prices of Singapore banks dip following expectations of Fed rate hikes ending

Feb 02, 2023

THE local banking trio ended the trading day in the red after the US Federal Reserve hiked the federal funds rate by 25 basis points on Wednesday – suggesting the United States central bank is close to the end of its rate hiking cycle.

DBS : D05 +0.26%led the fall with a 2 per cent decline to S$35.08, OCBC : O39 0% slid 0.8 per cent to S$12.88 and UOB : U11 +0.64% slipped 0.3 per cent to S$29.63 on Thursday (Feb 2). The trio were among the six losers on the 30-stock Straits Times Index (STI), with DBS being the top loser.

The banks have been beneficiaries of policy rate hikes by the Fed, with their bread and butter – net interest margins (NIMs) – rising in tandem with higher borrowing costs.

The Fed lifted the target for its benchmark rate by a quarter percentage point to a range of 4.5-4.75 per cent. The smaller move followed a half-point increase in December and four jumbo-sized 75-basis-point hikes before that. Chairman Jerome Powell made some nuanced arguments about being data dependent and more hikes still on the table.

Phillip Securities Research senior analyst Terence Chua told The Business Times that some weakness from banks is expected in the near term, as the continued rate hike cycle dampens demand growth even as banks’ NIMs rise. In the longer term, however, banks will see improvements in their bottom line driven by higher NIMs, though non-performing loans could also potentially weigh on their profits.

Tan De Jun, assistant manager of the research & portfolio management team at online brokerage platform FSMOne.com, said higher-for-longer interest rates are likely to be negative for Singapore real estate investment trusts (Reits) in general as they will eventually be forced to refinance their expiring loans at higher rates, resulting in a higher interest expense.

Furthermore, property values could be challenged. Property valuations are a function of discount rates or capitalisation rates, as well as net income.

“The estimated fair value of a property would decrease if discount rates or cap rates rose due to higher interest rates. A recession will likely result in a broad slowdown in commercial leasing activity, which could put downward pressure on rental rates and the potential for further distribution per unit deterioration for Reits,” Tan said.

Despite opening marginally higher on Thursday, the STI ended 0.4 per cent lower as the banking trio accounts collectively for over 40 per cent of the blue-chip barometer’s weighting. This contrasted with the performance of the Wall Street and most key Asian bourses, which were buoyed by the smaller rate hike and the Fed possibly stopping further rate increases soon.

Ray Sharma-Ong, investment director of multi-asset investment solutions, at global investment and asset manager abrdn, said: “We do think that the Fed is close to the end of its hiking cycle, with the statement acknowledging that it is nearing a sufficiently restrictive stance.”

Abrdn expects the policy rate to peak at 5-5.25 per cent, with risks to the upside should labour market data not soften.

DBS Group Research noted a dovish undertone with respect to the peak rate and the possibility of easing within the year.

Despite the market expecting the Fed being on track to stop hiking, there are doubts over whether a pivot to cutting rates would ensue soon after.

DBS also noted that with the economy heading closer towards a Goldilocks environment – one that stems from a more resilient US and Europe plus China’s rapid reopening – there may not be any urgency for the Fed to cut rates that soon, let alone to cut by any significant magnitude.

It thinks that the market’s pricing in of rate cuts over the next two years seems excessive, as the US two-year Treasury bill yield is now close to the floor of its recent range. The market is now pricing in close to 200 basis points of rate cuts from peak in the second quarter this year to end-2024.

Jason England, global bonds portfolio manager at asset manager Janus Henderson Investors, pointed out that there is a divergence between the Fed’s presumed position of holding peak rates for the rest of 2023 and market expectations of a cut by year’s end. It might result in “someone getting caught offsides rises considerably”.

England said: “So, while we expect rates markets – and other asset classes – to trade in a range-bound manner in coming months, as the true path of the economy emerges, we would not be surprised to see a spike in volatility as the market adjusts to a yet-to-be-determined reality.”

Kerry Craig, global market strategist at JPMorgan Asset Management (JPAM), believes inflation and rates will continue to dominate the market narrative for the first quarter. But investors are being presented with an increasing array of investment opportunities given the differing regional growth rates and the reversal of the higher inflation and higher rate theme from 2022.

For bond investors, higher government bond yields means adding duration is a more appealing prospect. And the credit market continues to offer a safer way to pick up yield for income seekers. For equities, the skirting of a recession in Europe and acceleration of growth in China at a time when relative valuations are in their favour means investors may see improving returns from markets outside the US, the JPAM strategist said.

“Clarity on inflation and rates will determine whether the next leg in the equity market is higher or lower,” Craig added.

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