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Despite China’s current woes, Standard Chartered will continue to invest

  • Revenue guidance raised on strong Q1 22 financial markets income and prospect of higher margins as interest rates rise

  • Resources are being shifted to China despite recent asset quality and revenue woes. Africa exposure is being trimmed

  • Capital discipline and recovering profitability will fund more buy-backs, adding sheen to the modest 10% ROTE target

Despite China’s current woes, Standard Chartered will continue to invest
Rahul Shah
Rahul Shah

Head of Financials Equity Research

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Tellimer Research
28 April 2022
Published byTellimer Research

StanChart’s Q1 22 results have been welcomed by investors, with the stock currently up 12% in London. Revenues rose 9% yoy, 10% ahead of consensus, prompting management to marginally raise the full year top line guidance. The revenue beat was driven by trading income, and helped pre-tax profit come in 44% ahead of consensus expectations. Despite the current difficulties in China and Hong Kong, the firm appears bullish on the longer-term prospects in these markets and intends to redeploy capital from smaller African markets (which it is exiting).

For EM investors, the results suggest that smaller African markets will remain off-radar, with valuations remaining discounted. In contrast, the firm’s commitment to China suggests the near-term issues (regulatory turmoil, Covid lockdowns, overinvestment) should not detract from the positive bigger picture of economic development and wealth creation. The bank intends to double its profits from this market by 2024. On this basis, there may be value in pure-play China banks.

The results also highlighted key trends we have seen elsewhere; widening margins, strong fixed income and commodities trading income, rising compensation costs, recovering asset quality (ex-China), and scope for significant capital returns.

StanChart currently trades at 8.1x consensus 2022 earnings and 0.4x book value. The shares have risen 21% year-to-date. In contrast, the large Chinese banks trade at 4.8x 2022 PE; their shares have risen 5% this year.

 

Regional round-up: Core Asia weakness offset by gains elsewhere

 Asia accounts for almost two-thirds of StanChart's business. The Asian business is split across greater China, Korea, India and ASEAN.

Standard Chartered regional mix

The largest individual markets are Hong Kong, the UK and Singapore.

Standard Chartered country mix

Strong Financial Markets performance is reflected in the positive top line performance of the UK and US. In contrast, the markets where StanChart intends to grow (China, Hong Kong, ASEAN) saw top line declines. Africa and the Middle East posted strong revenue performance. 

Standard Chartered: operating income growth drivers

Directional profitability trends were broadly in line with this top line picture. Hong Kong was a big drag on performance; this is where most of the commercial real estate provisioning was booked.

Standard Chartered: PBT growth drivers

Key takeaways from StanChart's Q1 22 performance:

Net interest margin will continue to benefit from the higher rate environment

Ongoing monetary tightening across StanChart's markets of operation means that the recent positive trend in margins (which rose 10bps in Q1 21) could continue to play out for the next couple of years. Together with positive Financial Markets income (see below) this is a key driver of management's confidence that the 5-7% revenue growth guidance for 2021 can be beaten. We have previously highlighted the emerging market banking systems most exposed to higher interest rates

Financial Markets delivers a record top line

The key driver of this strong performance was Macro Trading; Commodity income more than doubled on higher energy prices, while FX and Rates benefitted from higher flows as clients looked to manage volatility. In contrast, Credit Trading revenue declined, as spreads widened.

Wealth Management woes

Increased macroeconomic and geopolitical uncertainty has affected revenues in this area, while last year's record performance made for a tough base of comparison. China's tough stance on Covid has also had a negative impact.

Retail Product revenues being increasingly driven by liabilities

Higher interest rates are increasing the value of deposits to the franchise. Fee income was lower, particularly in Hong Kong.

Credit impairments concentrated in Hong Kong CRE; Commodities Trading is at risk

Of the US$200mn credit impairment charge taken in Q1, US$160mn related to Hong Kong/China commercial real estate. A further US$107mn provisions were taken against Sri Lanka exposure, given that country's difficulties. These hits were partly offset by lower Covid-related provisioning.

The bank targets a medium-term credit risk cost of 30-35bps of exposure (the Q1 rate was 24bps). Potential drivers of this rise in risk costs include further deterioration in the China real estate market, rising inflation/interest rates and commodity price volatility.

Wage inflation remains an issue

Operating costs are likely to come in ahead of the US$10.7bn target, largely due to enhanced performance-related pay. Executives at Deutsche Bank and UBS have also recently commented on staff cost inflation. Many investment banks have been aggressively raising their pay scales for graduate joiners. StanChart has US$1.3bn cost reductions targeted by 2024.

Balance sheet optimisation is taking place

Standard Chartered intends to keep reducing the volume of its risk-weighted asset, particularly the least profitable large corporates exposures. The CET1 ratio is 13.9%, within the 13-14% target range despite the ongoing US$750mn share buy-back. The bank has committed to return US$5bn capital to shareholders over the coming three years.

Africa exposure is being rationalised, with a renewed focus on the largest markets

Africa and Middle East Q1 22 performance was strong, with profits rising 60% and ROTE hitting 13.2%. The UAE was a key driver, and the region as a whole is benefitting from provisioning releases. The firm is seeking new banking licences in Saudi Arabia and Egypt, but at the same time is looking to exit some smaller markets such as Cameroon, Jordan and Sierra Leone. Despite the cheap multiples at which many African banks trade, StanChart's approach suggests that much of the continent will continue to be shunned by international investors.