By: Nicholas
Christman, AIM Student at Marquette University
Disclosure:
The AIM Equity Fund currently holds this position. This article was written by
myself, and it expresses my own opinions. I am not receiving compensation for
it and I have no business relationship with any company whose stock is
mentioned in this article.
Summary
• HSBC Holdings plc (NYSE:HSBC) is the holding company for the HSBC
Group. HSBC is an international financial services conglomerate, providing
their services across 6,000 locations and 70 different countries. Their largest
business line is their retail banking and wealth management (RBWM) division,
which accounted for 43% of total revenue in 2015.
• Underlying business trends
remain strong on an adj. basis with PBT up 7% in Q3 16’ YoY.
• Loss of $1.7B on sale of HSBC
Brazil as CEO continues to exit unprofitable countries.
• Accounting change in
recording stake of Bank of Communication, located in China, caused a $121B in
RWAs and $5.6B reduction in capital improving their CET1 ratio 104bps.
• HSBC is positioned to benefit
from an increase in interest rates with their advances to deposits ratio at 68%.
A 25bps parallel shift down in rates globally would cause a $2B loss in net
interest income, thus highlighting the importance of rising rates.
Key
points: HSBC like the other global investment banks has struggled to
find consistent returns as the uncertain regulatory and political environment
has taken away the historical advantage of economies of scale within banking.
However, HSBC has protected capital much better than their European
counterparts as their strong US and Asian franchises earned 54% of their total
revenue in 2015.
HSBC has continued to take
opportunistic and aggressive steps to bring their RWAs down to manageable
levels under the Basel III capital adequacy framework. While unloading these
assets have led to losses, HSBC has made progress much faster than their peer G-SIBs.
As of the end of Q3 16’, HSBC had reduced RWAs $229B since the reductions began
in Dec 14’, which is 82% of their total goal. Their CET1 ratio of 13.92% leads
the peer average of 12.55% and gives HSBC significant opportunity to return
capital to shareholders. As of Q3 16’, 59% of HSBC’s $2.5B buyback has been
completed.
HSBC has been making
significant improvements in their operating costs through multiple initiatives.
One such cost cutting program has been cutting redundant branches (271 in Q3
16’) and enhancing digital capabilities through self-service banking. Another
focus has been cutting unnecessary employees meanwhile improving IT
infrastructure and re-engineering operations to make the company more
efficient. 9M16 operating expenses fell $.8B to 22.3B vs. $23.1B 9M15 operating
expenses.
HSBC still must settle multiple
outstanding lawsuits including the RMBS suit with the DoJ. The market will have
more clarity on the expected penalty when other major European banks finally
come to a settlement with the DoJ on their respective cases. HSBC’s underlying
ROE for 9M16 has exceeded 8% thus showing their leading profitability from a
competitive standpoint out of Europe. If HSBC can wind down one time charges
and benefit from a better interest margin environment, the company should be
able to drive strong returns into the foreseeable future.
What
has the stock done lately?
HSBC has returned 4.71% in the
last month outperforming the European financials ETF (EUFN) by 151bps. The
stock jumped 4% on the day it reported earnings, as underlying adjusted PBT was
10% higher than expectations. The overall improvement in rates and steepening
yield curve has brought the entire banking sector higher. HSBC trades at a
lower P/TBV multiple than its US competitors at .89x vs. 1.31x US peer average,
and could see potential upside if Asia and EM exposure drive additional
revenues.
Past
Year Performance: HSBC stock has risen 9.59% over the past year,
rebounding nicely from the lows following the Brexit induced selloff. HSBC has
a 6.14% dividend yield, and this can be expected to be paid out going forward based
off the company’s strong capital ratios and underlying profitability trends. The
stock has performed better than European peers because HSBC is much more
geographically diversified. This will protect the stock from any one
macroeconomic change within a given region.
Source: FactSet
My
Takeaway
Along with JPMorgan, HSBC has
the highest CET1 capital buffer, which leaves solvency as one of the biggest
strengths for the business. The ability to focus on profitable growth globally
will put their business ahead of their competitors. HSBC could look to use
their higher capital position to accumulate assets in Asia, which will be cheap
as European peers scale back. This flexibility and growth potential makes Therefore, it is recommended that
the AIM International Equity Portfolio continue to hold HSBC despite the
regulatory and political risks that the company faces.
Source:
FactSet
