HBCYF - HSBC Is Already Priced For The Long Term

2023-09-11 06:05:22 ET

Summary

• In H1, HSBC's pre-tax profit doubled to $18.1 billion, thanks to higher interest margins.
• HSBC plans to reward shareholders with a $0.1 dividend and a $2 billion share buyback. However, the company's total yield is lower than EU peers.
• Valuation looks full, and we believe that Wall Street is optimistically pricing the next visible period. The neutral rating target is confirmed.

Today, we comment on HSBC (HSBC). Very briefly, we are looking at the Q2 results, but we aim to provide a long-term view of the company's financials and valuation. Indeed, the banking sector is influenced by Macro and Micro Implications , and until a few weeks ago, the ECB and the Bank of England were uncertain about a possible increase in interest rates. However, looking at the recent data on inflation and wages in the United Kingdom, we have no more of these doubts. In July, the UK core inflation index remained at a high level of 6.9%, while annualized wage growth was close to 10%. In a forward-thinking implication, we now estimate an increase in interest rate of 25 basis points in late September and an additional 25 basis points in the following months.

Q2 Results and Changes in Estimates

From HSBC's results, from January to June 2023, revenues increased to $36.9 billion. Given the favorable rates environment, this was supported by net interest income evolution. In numbers, the company delivered a net interest margin of 1.72%, with an increase of 46 basis points. Going down to the P&L, the bank's pre-tax profit jumped to $21.7 billion; however, this result includes France's sale for $2.1 billion and the SVB positive one-off for $1.5 billion. For the second quarter alone, HSBC beat analysts' expectations by reporting an 89% increase in pre-tax profit. Pre-tax profit ended with $8.77 billion, beating Wall Street analyst consensus forecasting $7.96 billion.

In addition, following the solid first-half results, HSBC decided to reward shareholders with a second interim dividend of $0.10 per share and a second share buyback in 2023 of up to $2 billion, with additional distribution capacity still expected in the future. In the future, the banking giant also raised a key performance target, forecasting a near-term return on tangible equity of 12%, up from the previous mark of 9.9%.

Fig 1

1. While we believe H2 2023 and Fiscal Year 2024 are well priced, the net interest income is 10% too high in 2025. This is based on an interest rate slowdown and the Chinese real estate development. This confirmation is derived from the management outlook with HSBC managers, anticipating a lower net interest income already in H2 2023 (Fig 2). However, the CEO implies a 4% earnings upgrade in 2023, including a $0.7 billion downside risk estimate related to China CRE. We believe that cyclical pressures are not reflected in Wall Street estimates. This year, our revenue estimate is set at 65.9 with a net profit of $24.5 billion, while in 2025, we are at $60.3 and $19.09 billion, respectively;
2. On the short-term horizon, we believe that disposals are well-noted (Fig 3), and we do not anticipate any relevant upside;
3. The company announced another $2 billion share repurchase program, representing 1.3% of HSBC's current market cap (Fig 1). Including the dividend, according to our calculation, the bank offers an 8-10% per year yield until 2025;
4. On the balance sheet side, the bank reached a common equity tier 1 capital ratio of 14.7%, with a 0.5% increase compared to 2022-end. Our previous estimates forecast a CET1 ratio impact of minus 25 basis points in Q2 2023; however, with the solid results and a new buyback announcement, HSBC predicted the same effect in Q3 (Fig 4). On the ratio, HSBC is in line with EU peers in our coverage.

Fig 2

Fig 3

Fig 4

HSBC Valuation and Sector Overview

Looking at the EU banking sector, at first glance, banks are trading at a favorable P/E of 6.8x with a price on tangible book value multiple of 0.8x. On average, the 2025 RoTE is expected at 12.5%. However, in normalized estimates, we anticipate an earnings cut of 8%, which brings the P/E to 7.5x and a forward RoTE of 11.5%, assuming long-term ECB rates of 2.5% and average provisions. This offers a limited risk-reward headroom compared to a long-term forward P/E of around 8.2x.

Looking at HSBC, the 2025 bank's valuation is higher than peers at 0.9x TNAV and 14% in RoTE. On average, HSBC trades at a 10% premium and offers a lower yield than its peers (considering the projected dividend and buyback). Post H1 results, and in line with the company's indication, Mare EPS rose by 4%. Our fair multiples see HSBC trading 15% above European average price-earnings. Here at the Lab, in our estimates, we moved HSBC 2025 P/E from 8.2x to 7.3x to capture a lower profit before tax risk estimates over the forecasted period. Despite that, we are also increasing our company's valuation from 515p to 615p, maintaining a neutral rating. HSBC 2024 yield is set at 9% and is lower than a few EU banking peers, such as SocGen , ISP , UniCredit , BNP Paribas , and CASA .

HSBC downside risks include 1) macroeconomic environment deterioration focusing on China-related loans, 2) lower loan growth, 3) interest rate changes, and 4) a sell-side that is not factoring rate cuts into 2025. Here at the Lab, 2025 net interest income should decrease by at least 10-12%.

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