Sunday, May 08, 2011

Finally, Grey Clouds Dissipating

Two things happened which should boost equities locally. Commodities correction, and more importantly, the rate hike by Bank Negara. The uncertainty has been weighing on the market for sure.
Against market expectations, Bank Negara yesterday raised the overnight policy rate (OPR) by 25 basis points (bps), citing concerns on inflation. BNM also increased the statutory reserve requirement (SRR) ratio by 100bps to 3%. Though the interest rate hike was widely unexpected, it may be an indication that the economy – as well as inflation – is gathering strength.

Most economists had expected the first hike to take place later in the year, as the OPR is gradually returned to its pre-crisis level. Meanwhile, the SRR hike is seen as a pre-emptive effort to curtail the build-up of excess liquidity, which BNM said could result in financial imbalances and create risks to financial stability.

OPR raised to 3% and SRR by another 100bp - Bank Negara raised the overnight policy rate (OPR) from 2.75% to 3%. This is the first hike since July and is in line with our view of a total increase of 50-75bp for 2011. The statutory reserve requirement (SRR), which was reduced from 4% to 1% at the end of 2008/early 2009, was raised a further 100bp to 3% following the similar hike at its March meeting. The SRR increase is also not a surprise and the fact that Bank Negara is willing to raise rates amidst a stronger ringgit indicates that Bank Negara is willing to let the ringgit strengthen further, and that liquidity is still ample in the system.

Non-bank earnings impact appears limited, if any - The impact on non-bank profits from higher rates, which should also drive a further rise in the local currency, should be largely neutral. This is due to the low gearing of the market and the fact that there are more importers than exporters within the listed market and our coverage universe. In the two years following the last tightening period, earnings expanded by a cumulative 84% (ie, 2005-07). This is not necessarily due to the rate hikes, but does show that the rate increases did not dampen economic activity and earnings potential.

Bank margins should benefit -
In addition to assets tend repricing faster than liabilities, banks would also benefit as the proportion of fixed-rate loans is relatively low and liquidity conditions are healthy. The banking sector net profit could be enhanced by around RM555m from 50bp OPR and 300bp SRR hikes, which equates to 2.2% of our forecasts. The key beneficiary is AFG while the benefit to HLBK, RHBC, Maybank and CIMB are also relatively high.

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