HSBC (HSBA) stock has rallied around 40% since it last appeared on the site back in September. At the time, shares of the global banking giant traded for just over 300p each. That quote represented an almost unprecedented slump that had taken the stock to a circa 25-year low. Of course, bad news was not exactly in short supply. The fall in interest rates was taking a big chunk out of net interest income, while COVID and its associated impact on credit quality could also be expected to take a chunk out of profit. Political issues in Hong Kong, where the bank is strongest and generates most of its earnings, also weigh on the group. Though plentiful, it would be hard to argue that bad news wasn’t also fully baked into the share price. Indeed, the 300p figure quoted above represented a multiple of just 0.5x tangible book value (“TBV”) at the time.
A lot of news has been released since then, including full year 2020 figures released last month. The bank reported net interest income (“NII”) of $27.6b last year, down from $30.5b in 2019 on lower interest rates. The bank’s net interest margin (“NIM”) fell 26 basis points (“bps”) to 1.32% for the year. Non interest income clocked in at $22.8b, down around 7% despite higher investment banking revenues. For that we can blame generally lower economic activity – obviously another symptom of COVID. All said and done, total 2020 revenue clocked in at $50.4b, a circa 8% drop on 2019.
Turning to profit, the bank obviously set aside a lot more for bad debt last year. Management had previously warned back in the first quarter that expected credit losses (“ECL”) could hit around $11b for the year. As it turned out, ECL totalled $8.8b in 2020, up from around $2.6b back in 2019. That obviously took a big bite out of profit, notwithstanding an offsetting 3% fall in adjusted operating expenses. Adjusted profit before tax (“PBT”) slumped to $12.15b, a circa 45% drop on 2019.
There was some slightly good news at least – the dividend returned. HSBC declared an interim 2020 cash payout of $0.15 per share, though it will not resume quarterly payouts in 2021. It will instead consider another interim payout alongside first half results in August. That came alongside a broader overhaul of its dividend policy. Analysts had previously expected the bank to use COVID as a chance to rebase its payout, and a target to distribute 40-55% of reported earnings per share (“EPS”) from 2022 onwards basically confirms that. The bank paid out a static 51¢ per share annual distribution in the years preceding COVID.
Like many banks, HSBC expects lower interest rates to persist until at least the mid-2020s. A ‘lower for longer’ environment obviously means that its NIM and NII will likewise remain under pressure going forward. While not a surprise, it does help explain the move to rebase the dividend. Its target of earning a minimum 10% return on tangible equity (“ROTE”) – which would cover the old dividend with change – is now seen taking three to four years to achieve. The bank posted a ROTE of just 3.1% last year.
Of course, we can’t read too much into that last number. Banks are obviously cyclical beasts, and COVID represented a spectacular hit to the world’s economy. Lower ECL charges over the next few years will see its ROTE recover significantly on its own. After that, the bank sees cost efficiency and higher revenue leading it towards its 10% target. In terms of the former, this includes a further focus on cutting costs, with HSBC now targeting annual operating expenses of $30b in 2022 and stable costs thereafter. That represents a circa $1b reduction on its earlier 2022 target of $31b.
In terms of revenue growth, the group reaffirmed plans to pivot more towards faster growing Asia, where it aims to invest an extra $6b. This will see the bank beef up its wholesale banking and wealth management offering as it aims to capture growing trade and the rising middle class out there. Management sees that leading to double-digit PBT growth in the region over the next 5-6 years. Note also that the plan includes a circa 800bps shift in terms of capital allocation away from markets such as the United States and Europe, where the group’s return is much lower. Management stated that it is in negotiations regarding a potential sale of its French retail banking operations. Its US retail banking franchise also appears up for sale.
HSBC shares currently trade for around 425p each on the LSE. Although up 40% since September’s piece, the stock is still close to where it was when it first appeared here back in Q2 2020. I called it reasonable value and an okay deal back then, and that view remains. Just to put the current share price into some context, it still represents a circa 25% discount to TBV of $7.75 per share. If the group manages to hit its 10% ROTE target within the next few years, then the stock should really trade closer to that TBV figure. Furthermore, the balance sheet remains solid, with a CET1 ratio of 15.9% pointing to plenty of excess capital based on management’s 14-14.5% target level. All in all there remains enough to support a solid value case here.
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