HSBC: An Underperformer - Analyst Blog
December 05 2011 - 9:13AM
Zacks
We are initiating our coverage on HSBC Holdings
plc (HBC) with an Underperform recommendation. Our primary
concern is the harsh impact from the deepening Euro-zone crisis.
Moreover, the company is suffering from weak revenue growth in its
mature markets due to the ongoing low interest rates and regulatory
restrictions.
Revenue growth remained restrained in recent years as a
continued low interest rate environment stained revenue generation
from several corners. Reducing loan balances, lower trading income
in Global Banking and Markets due to lesser client activity and a
reduced contribution from Balance Sheet Management are among the
factors that have kept overall revenue under pressure.
As growth remains muted in HSBC’s more mature markets (Europe,
the U.K., and the U.S.), revenue growth is expected to remain under
pressure in the upcoming quarters as well. Moreover, new
regulations are expected to restrict fee income growth.
We are also concerned about the performance of Global Banking
and Markets as pressures from European sovereign debt crisis have
dim chances of easing soon. The lack of loan growth in Commercial
Banking, particularly in Hong Kong and Asia, also remains a major
concern. Commercial Banking loan growth has been the key
performance driver in the recent past, but the slowing economy is
forcing the company to reduce its appetite in this arena.
The company’s core operating performance remains unsatisfactory.
While the company has reported steady operating income primarily
based on reducing loan impairment charges and other credit risk
provisions in the last few quarters, its core business performance
indicators such as net interest income, net fee income and net
trading income failed to impress.
As the slowing economy coupled with a low interest rate
environment are expected to put pressure on the core business
drivers in the upcoming quarters, it would be difficult for HSBC to
improve operating results based only on uncertain benefits like
lower impairment charges.
On the flip side, HSBC’s product and service leadership in
alternative investments, foreign exchange, credit, investment
advice and many other cross-border banking services help it in
spreading its customer base better than peers. Moreover, the
company has more than half of its operations in fast-growing
emerging markets that are expected to outperform the developed
western economies.
Despite the uncertain macro environment, HSBC remains strong
with respect to its balance sheet and capital position, which is
definitely a competitive advantage over other banks. The company
continued to grow its capital base and strengthen its capital
ratios. At the end of 2010, core tier 1 ratio increased to 10.5%
from 9.4% in the previous year. This was well above the minimum
regulatory requirement plus the capital conservation buffer.
We expect this capital strength to allow HSBC to enhance its
profitable market share. Also, as a consequence of capital
strength, unlike many of its peers, HSBC continued to pay dividends
over the last couple of years, though at a reduced rate. The
company continued the same trend in 2011 as well.
HSBC has been also progressing well with respect to its
long-term strategy to reduce costs up to $3.5 billion by 2013. In
August, HSBC announced its plan to restructure the business and
trim its workforce by 30,000 in the next two years.
Also, the company is in the process of selling its profitable
U.S. credit card business to Capital One Financial
Corporation (COF) to slash its non-core business and
reduce costs. The primary intention is to focus more on the
fast-growing emerging markets. The deal, which is expected to be
completed by the second quarter of 2012, will likely enable HSBC to
gain share in all its key Asian markets where demand is very
high.
Though cost containment measures will help the company deal with
the economic pressures to a great extent, we expect high inflation
in some key Asian markets, slothful loan growth, insufficient core
operating performance and high wage inflation to restrict the
company’s growth, at least in the near term.
HSBC currently retains a Zacks # 5 Rank, which translates into a
short-term Strong Sell rating.
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