Silver Point

Thomas J. Monaco

Silver Point is a boutique research firm that focuses on the broader financial services sector, with a particular focus on troubled institutions globally. 

Asia Ex Japan

Equity Bottom-Up

*Poor Showing: Hang Seng Bank (11.HK) [Hang Seng] reported both a weak and low quality 2H20 result of HKD 7.5 bn, declining HKD 1.6 bn (17.5%) HOH. The decline in earnings was attributed to net interest income decline due to loan contraction, and NIM compression; and*Did HSBC Overstate Results?:While the current NPL ratio is not alarming, the HOH increase in net new NPLs is at HKD 3.0 bn  - which amounts to an alarming 201% increase on an annualized basis. This is not the first major subsidiary that HSBC is allowing to fall into the abys from a credit perspective, with HSBC North America (HSBCNA) posting net new problem loan growth at 155.4%. Like HSBCNA, we calculate Hang Seng under-provided for to the tune of HKD 6.3 bn or nearly 75% of the bank’s PBT. Combining both subsidiaries, we find that HSBC Holdings Plc overstated 2H20 results (adjusted for ownership) to the tune of USD 4.3 bn – just on these two subsidiaries alone.

*Poor Showing: Hang Seng Bank (11.HK) [Hang Seng] reported both a weak and low quality 2H20 result of HKD 7.5 bn, declining HKD 1.6 bn (17.5%) HOH. The decline in earnings was attributed to net interest income decline due to loan contraction, and NIM compression; and*Did HSBC Overstate Results?:While the current NPL ratio is not alarming, the HOH increase in net new NPLs is at HKD 3.0 bn  - which amounts to an alarming 201% increase on an annualized basis. This is not the first major subsidiary that HSBC is allowing to fall into the abys from a credit perspective, with HSBC North America (HSBCNA) posting net new problem loan growth at 155.4%. Like HSBCNA, we calculate Hang Seng under-provided for to the tune of HKD 6.3 bn or nearly 75% of the bank’s PBT. Combining both subsidiaries, we find that HSBC Holdings Plc overstated 2H20 results (adjusted for ownership) to the tune of USD 4.3 bn – just on these two subsidiaries alone.  

Hang Seng Bank – HSBC Fingerprints All Over This Print

Financials Credit Analyst

Hank Calenti, CFA

CreditContinuum

Credit

We progressed from melt-up to full risk-on duration admiration as the week progressed. The improved risk sentiment drove spreads tighter last week, with almost all bonds tightening  globally. China’s return from Lunar New Year holidays also pushed Asia’s financial spreads materially lower. Asia’s financial indexes outperformed European notes as Additional Tier 1 bonds in both regions continued to tighten.Debt investors continue to look to banks as a means to play the economic recovery trade. Every Asia bank headquartered Additional Tier 1 (AT1), Tier 2 and X-over rated bank bond compressed over the week. Almost all High Yield bank bonds tightened globally. <a href="https://www.smartkarma.com/entities/yes-bank-ltd" target="_blank" data-smartkarma-citation="entities:767:1" rel="noopener">Yes Bank (YES IN)</a> and <a href="https://www.smartkarma.com/entities/indiabulls-housing-finance-ltd" target="_blank" data-smartkarma-citation="entities:13086:1" rel="noopener">Indiabulls Housing Finance (IHFL IN)</a> bonds were among the few bonds that did not strengthen during the week. Meanwhile <a href="https://www.smartkarma.com/entities/hsbc-holdings-plc-a723bd63-0890-486f-aaa0-3bb9ad2b95ce" target="_blank" data-smartkarma-citation="entities:21976:1" rel="noopener">HSBC Holdings (HSBA LN)</a> and <a href="https://www.smartkarma.com/entities/standard-chartered-plc" target="_blank" data-smartkarma-citation="entities:193:1" rel="noopener">Standard Chartered (STAN LN)</a> are expected to report results this week. These results may impact global bank investor sentiment.In addition, HSBC may entreat us to another strategic review. It is hard to not be cynical regarding these, given the lack of success with the last two. Nonetheless, the main risk for credit investors is that of a substantial geographic reorganization which negatively impacts holding company cash flows or attempts to push holding company bonds to less attractive subsidiary operations. While we think both outcomes are unlikely, we will be watching for any potential hints of this. Globally, <a href="https://www.smartkarma.com/entities/svenska-handelsbanken-ab" target="_blank" data-smartkarma-citation="entities:22480:1" rel="noopener">Svenska Handelsbanken's (SHBA SS)</a> 4¾% coupon 2031 callable note led Additional Tier 1 (AT1) and broader bank US$-bond performance. This bond also led global spread performance in the week prior. Other long-callable AT1 bonds also outperformed during the week, including Standard Chartered’s and UBS’s 2031 maturity bonds, as well as HSBC’s coupon 2030 maturity note. These each compressed by 13bps.Given the rate of change over the last two weeks, there are clear opportunities within the credit curves of some banks. These are potential buy or sell opportunities, depending on whether your expectations are for the current risk-on rally to continue.  We identify these by security type within.Market Outlook: Unlike 2019 when we experienced a rally that everyone loved to hate, everyone loves this rally. Combined with the strength of the risk-on moves, this makes us uneasy. Financial repression creates a market, which in its nature, is always a one-sided bet with the Fed / ECB/ BOJ. There is limited price discover as the market is simply sentiment driven. Credit value should remain driven by larger market forces. However, we may be fast approaching a point where the market outpaces the rate of expected economic recovery, and / or the market outpaces the rate that can be achieved without incurring substantial financial stability concerns. Our preference is for lower duration bonds, preferably in the belly of the curve, but the market has duration admiration. Please see our recent <a href="https://www.smartkarma.com/insights/bank-macro-manifest-risk-rally-gathers-steam-as-bad-news-more-stimulus" target="_blank" rel="noopener">Bank Macro Manifest</a> and <a href="https://www.smartkarma.com/insights/bank-credit-strategy-melt-up-before-meltdown-where-to-position" target="_blank" rel="noopener">Bank Credit Strategy</a> notes for more details.

We progressed from melt-up to full risk-on duration admiration as the week progressed. The improved risk sentiment drove spreads tighter last week, with almost all bonds tightening  globally. China’s return from Lunar New Year holidays also pushed Asia’s financial spreads materially lower. Asia’s financial indexes outperformed European notes as Additional Tier 1 bonds in both regions continued to tighten.Debt investors continue to look to banks as a means to play the economic recovery trade. Every Asia bank headquartered Additional Tier 1 (AT1), Tier 2 and X-over rated bank bond compressed over the week. Almost all High Yield bank bonds tightened globally. Yes Bank (YES IN) and Indiabulls Housing Finance (IHFL IN) bonds were among the few bonds that did not strengthen during the week. Meanwhile HSBC Holdings (HSBA LN) and Standard Chartered (STAN LN) are expected to report results this week. These results may impact global bank investor sentiment.In addition, HSBC may entreat us to another strategic review. It is hard to not be cynical regarding these, given the lack of success with the last two. Nonetheless, the main risk for credit investors is that of a substantial geographic reorganization which negatively impacts holding company cash flows or attempts to push holding company bonds to less attractive subsidiary operations. While we think both outcomes are unlikely, we will be watching for any potential hints of this. Globally, Svenska Handelsbanken's (SHBA SS) 4¾% coupon 2031 callable note led Additional Tier 1 (AT1) and broader bank US$-bond performance. This bond also led global spread performance in the week prior. Other long-callable AT1 bonds also outperformed during the week, including Standard Chartered’s and UBS’s 2031 maturity bonds, as well as HSBC’s coupon 2030 maturity note. These each compressed by 13bps.Given the rate of change over the last two weeks, there are clear opportunities within the credit curves of some banks. These are potential buy or sell opportunities, depending on whether your expectations are for the current risk-on rally to continue.  We identify these by security type within.Market Outlook: Unlike 2019 when we experienced a rally that everyone loved to hate, everyone loves this rally. Combined with the strength of the risk-on moves, this makes us uneasy. Financial repression creates a market, which in its nature, is always a one-sided bet with the Fed / ECB/ BOJ. There is limited price discover as the market is simply sentiment driven. Credit value should remain driven by larger market forces. However, we may be fast approaching a point where the market outpaces the rate of expected economic recovery, and / or the market outpaces the rate that can be achieved without incurring substantial financial stability concerns. Our preference is for lower duration bonds, preferably in the belly of the curve, but the market has duration admiration. Please see our recent Bank Macro Manifest and Bank Credit Strategy notes for more details.

*Gross Operating Revenues Do NOT Cover Recurring Costs At HSBCNA: HSBC Holdings plc’s (HSBC) [5.HK/HSBA.LN] US subsidiary, HSBC North America (US only) [HSBCNA], reported yet another troubling set of results for 4Q20, losing USD 152.6 mn – down USD 312.6 mn (195.4%) on a linked quarter basis. Excluding non-recurring items, core operating income declined USD 313.6 mn (230.1%) for a loss of USD 177.3 mn over the same period. As it stands again, HSBCNA’s operating costs exceed recurring revenues; *HSBCNA Is Evolving Into An Indian State Bank: Given the credit weakness, we find that NPL/TL and problem assets/TL ratios significantly worsened 92 bp and 160 bp linked quarter, respectively, to 2.82% and 5.01%. By our calculation, we note that net new problem loan growth is a scary USD 867.9 mn  - for an annualized rate of growth of 155.4% - in line with the Indian state banks. By our calculation, HSBCNA’s reserves are light by USD 3.8 bn or 17.6% of HSBCNA’s stated equity. We would have compared the reserve shortfall to PBT, but HSBCNA simply loses money on an operating basis; and*HSBCNA Should Be Dumped At Any Price: HSBCNA is a chronic mess, and there is absolutely no need for HSBC to maintain a full commercial/retail banking presence in the US. It cannot earn a positive return under its current structure; credit is again about to fall off a cliff; does not earning; NIMs are among the lowest in the USA; and capital is shortly about to fall below regulatory guidance. Further, the bad acquisitions and regulatory headaches should spur management to cut and run in the US. We look forward to Group results on February 23rd, and the clarity we will receive on its hot mess in the US.

*Gross Operating Revenues Do NOT Cover Recurring Costs At HSBCNA: HSBC Holdings plc’s (HSBC) [5.HK/HSBA.LN] US subsidiary, HSBC North America (US only) [HSBCNA], reported yet another troubling set of results for 4Q20, losing USD 152.6 mn – down USD 312.6 mn (195.4%) on a linked quarter basis. Excluding non-recurring items, core operating income declined USD 313.6 mn (230.1%) for a loss of USD 177.3 mn over the same period. As it stands again, HSBCNA’s operating costs exceed recurring revenues; *HSBCNA Is Evolving Into An Indian State Bank: Given the credit weakness, we find that NPL/TL and problem assets/TL ratios significantly worsened 92 bp and 160 bp linked quarter, respectively, to 2.82% and 5.01%. By our calculation, we note that net new problem loan growth is a scary USD 867.9 mn  - for an annualized rate of growth of 155.4% - in line with the Indian state banks. By our calculation, HSBCNA’s reserves are light by USD 3.8 bn or 17.6% of HSBCNA’s stated equity. We would have compared the reserve shortfall to PBT, but HSBCNA simply loses money on an operating basis; and*HSBCNA Should Be Dumped At Any Price: HSBCNA is a chronic mess, and there is absolutely no need for HSBC to maintain a full commercial/retail banking presence in the US. It cannot earn a positive return under its current structure; credit is again about to fall off a cliff; does not earning; NIMs are among the lowest in the USA; and capital is shortly about to fall below regulatory guidance. Further, the bad acquisitions and regulatory headaches should spur management to cut and run in the US. We look forward to Group results on February 23rd, and the clarity we will receive on its hot mess in the US.     

HSBC Holdings Plc –American Result Intimates Group Miss

We have been here before. As the Fed places achieving full employment above its goal of stable and low inflation, risks to financial stability should rise. Stability may be threatened by asset bubbles which are already likely to be forming in asset markets.At the same time, the fear of missing out (FOMO) is pushing investors to be invested while herd mentality provides job protection for asset managers that remain invested. The risk of an equity correction grows in the background. The issue is the lack of a catalyst for now. However, when it does arrive, the question is whether it is accompanied by a flight to quality in the bond market or if rising inflation expectations keep pushing market interest rates higher. Correlations may be reset in the latter outcome and some asset managers could implode in that scenario.We have been here before, as well. Counterparty failures and concerns regarding central clearing house stability may be the hot topics by the end of the year. As such, credit analysts should re-assess their exposures to the former, the prime brokers. Concurrently, now would be an opportune time to buy protection via credit indexes or credit default swaps. Most asset managers will not, as they are protected by the herd, but fortune favors the brave.In the near term, the market is gaining a newfound appreciation for the obscure mechanisms that influence short-term interest rates. We do our best to explain these tools inside and for more background on these pressures, please see our most recent <a href="https://www.smartkarma.com/insights/bank-macro-manifest-risk-rally-gathers-steam-as-bad-news-more-stimulus" target="_blank" data-smartkarma-citation="insights:47886" rel="noopener">Bank Macro Manifest: Risk Rally Gathers Steam as Bad News = More Stimulus</a>. More importantly, this concern is new and something new creates an opportunity. This is where the price of protection could be earned.Only the patina of time will tell if we are right in our correlation and counterparty concerns. But why risk it? Now is the time to think outside the box. Credit investors are not just playing for carry. Price appreciation may be gone, but credit investors need to play for highly efficient carry. Emerging Market and other High Yield assets will likely be impacted by the dislocation in short-term interest rates as investors bid-up higher yielding, short duration assets. A melt-up should occur before we get to the eventual meltdown. This is where to position.As such we identify our top 10 bank securities to position within to ride the melt-up. Downside risks are limited to potential opportunity costs from not investing further out the curve. However, we suspect that many investors are already full of long duration positions. The upside is that, if we are correct, these securities could also outperform in a meltdown. Therefore, our top melt-up picks may dovetail with attempts to reduce duration as the year proceeds.

We have been here before. As the Fed places achieving full employment above its goal of stable and low inflation, risks to financial stability should rise. Stability may be threatened by asset bubbles which are already likely to be forming in asset markets.At the same time, the fear of missing out (FOMO) is pushing investors to be invested while herd mentality provides job protection for asset managers that remain invested. The risk of an equity correction grows in the background. The issue is the lack of a catalyst for now. However, when it does arrive, the question is whether it is accompanied by a flight to quality in the bond market or if rising inflation expectations keep pushing market interest rates higher. Correlations may be reset in the latter outcome and some asset managers could implode in that scenario.We have been here before, as well. Counterparty failures and concerns regarding central clearing house stability may be the hot topics by the end of the year. As such, credit analysts should re-assess their exposures to the former, the prime brokers. Concurrently, now would be an opportune time to buy protection via credit indexes or credit default swaps. Most asset managers will not, as they are protected by the herd, but fortune favors the brave.In the near term, the market is gaining a newfound appreciation for the obscure mechanisms that influence short-term interest rates. We do our best to explain these tools inside and for more background on these pressures, please see our most recent Bank Macro Manifest: Risk Rally Gathers Steam as Bad News = More Stimulus. More importantly, this concern is new and something new creates an opportunity. This is where the price of protection could be earned.Only the patina of time will tell if we are right in our correlation and counterparty concerns. But why risk it? Now is the time to think outside the box. Credit investors are not just playing for carry. Price appreciation may be gone, but credit investors need to play for highly efficient carry. Emerging Market and other High Yield assets will likely be impacted by the dislocation in short-term interest rates as investors bid-up higher yielding, short duration assets. A melt-up should occur before we get to the eventual meltdown. This is where to position.As such we identify our top 10 bank securities to position within to ride the melt-up. Downside risks are limited to potential opportunity costs from not investing further out the curve. However, we suspect that many investors are already full of long duration positions. The upside is that, if we are correct, these securities could also outperform in a meltdown. Therefore, our top melt-up picks may dovetail with attempts to reduce duration as the year proceeds. 

Bank Credit Strategy: Melt-Up Before Meltdown, Where to Position

Real credit fundamentals have yet to catch-up with spreads in bonds which continue to outperform. True fundamentals have a considerable gap to close relative to spread compression. Global monetary accommodation is in large part responsible for recent outperformance. However, credit tourists may have booked too early.Deeply subordinated Additional Tier 1 (AT1) bonds led in terms of spread tightening during January in Asia. Increased risk tolerance and a reach for yield, possibly by credit tourists, drove results as global vaccination efforts raised economic growth expectations. As such, Hong Kong and Thai- based bank securities outperformed, albeit for differing reasons.As Asia-headquartered banks report earnings, the quality of disclosure varies considerably from bank-to-bank. Even where disclosure is adequate, asset quality indicators may greatly underestimate the level of troubled debt due to continued forbearance, restructuring efforts and early-stage aging. This is driving provisioning costs lower than would be expected in a more normal operating environment. The value of these reports is significantly diminished for credit investors. Financial repression creates a market, which in its nature, is always a one-sided bet with the Fed / ECB/ BOJ.  There is limited price discovery. As such, credit value should remain driven by larger market forces.In terms of economic growth, the IMF projects 11.5% and 8.1% GDP growth this year for India and China, respectively. The near-term future is South Asian, but this may not apply to all. Most India-headquartered banks already price-in considerable recovery prospects. However, significant bank recapitalized in needed for the economic forecasts to materialize and for these banks spreads to be maintained.Eventually, it will be time to deliver real fundamental performance. In the meantime, monetary accommodation should remain the main driver of credit spreads while economic growth plays catch-up. Credit tourists are fickle and may vacate if either are delayed.

Real credit fundamentals have yet to catch-up with spreads in bonds which continue to outperform. True fundamentals have a considerable gap to close relative to spread compression. Global monetary accommodation is in large part responsible for recent outperformance. However, credit tourists may have booked too early.Deeply subordinated Additional Tier 1 (AT1) bonds led in terms of spread tightening during January in Asia. Increased risk tolerance and a reach for yield, possibly by credit tourists, drove results as global vaccination efforts raised economic growth expectations. As such, Hong Kong and Thai- based bank securities outperformed, albeit for differing reasons.As Asia-headquartered banks report earnings, the quality of disclosure varies considerably from bank-to-bank. Even where disclosure is adequate, asset quality indicators may greatly underestimate the level of troubled debt due to continued forbearance, restructuring efforts and early-stage aging. This is driving provisioning costs lower than would be expected in a more normal operating environment. The value of these reports is significantly diminished for credit investors. Financial repression creates a market, which in its nature, is always a one-sided bet with the Fed / ECB/ BOJ.  There is limited price discovery. As such, credit value should remain driven by larger market forces.In terms of economic growth, the IMF projects 11.5% and 8.1% GDP growth this year for India and China, respectively. The near-term future is South Asian, but this may not apply to all. Most India-headquartered banks already price-in considerable recovery prospects. However, significant bank recapitalized in needed for the economic forecasts to materialize and for these banks spreads to be maintained.Eventually, it will be time to deliver real fundamental performance. In the meantime, monetary accommodation should remain the main driver of credit spreads while economic growth plays catch-up. Credit tourists are fickle and may vacate if either are delayed.

Bank Credit Compass: Credit Tourist May Vacate if Real Fundamentals Do Not Catch-Up

Hong Kong

Chong Hing Bank Limited provides banking and related services.  It operates branches in Hong Kong, China, and the United States.

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Chong Hing Bank (1111 HK)

Hang Seng Bank – HSBC Fingerprints All Over This Print

HANG SENG BANK: Hang Seng reported both a weak and low quality 2H20 result - declining 17.5% HOH due loan contraction and NIM compression. The...

Thomas J. Monaco

Bank Credit Weekly: Duration Admiration

We moved from melt-up to full risk-on duration admiration. Almost all bank bonds tightened globally. Given the rate of change, there are mispriced...

Hank Calenti, CFA

HSBC Holdings Plc –American Result Intimates Group Miss

HSBC HOLDINGS PLC: HSBCNA reported troubling results in 4Q20 - declining 195% linked quarter, as operating costs exceed recurring revenues. This...

Thomas J. Monaco

Bank Credit Strategy: Melt-Up Before Meltdown, Where to Position

We could see a melt-up in asset prices from short-term interest rate pressures before the eventual meltdown. We explain the melt-up potential and...

Hank Calenti, CFA

Bank Credit Compass: Credit Tourist May Vacate if Real Fundamentals Do Not Catch-Up

Credit tourists may vacate if economic growth and real credit fundaments are not delivered. The gap between credit spreads and fundamentals is...

Hank Calenti, CFA

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