Join our community of smart investors

Buy HSBC for sturdy income

The Asia-focused bank is strengthening its balance sheet and offers a sector-beating yield
May 18, 2017

Before the financial crisis banking stocks were known as income stalwarts. However, since 2008 the vast majority of major UK-listed lenders have been forced to cease or significantly cut their dividend payouts. Against this backdrop, HSBC (HSBA) is a dividend king. Unlike other banks, HSBC has maintained generous dividends since 2009. And with risk-weighted assets reducing and capital levels improving, the banking giant is in a good position to continue this.

IC TIP: Buy at 676.9p
Tip style
Income
Risk rating
High
Timescale
Long Term
Bull points
  • High dividend yield
  • Improving capital levels
  • Expanding in Asian growth areas
  • Costs falling
Bear points
  • Trades at a premium to peers
  • Wealth management revenue volatile

As arguably the only remaining 'universal bank' (commercial and investment banking as well as a gamut of other financial services) within the UK-listed sector, HSBC has benefited from the diversification of its operations. However, geographically the banking group is looking to Asia for growth and reducing unprofitable overseas operations. Management is aiming to grow its businesses, particularly in China's Pearl River Delta and South East Asia, taking advantage of growing middle classes, demand for savings products and increased trade within these regions. In December it launched its first own-branded credit cards in mainland China. Meanwhile, new retail banking and wealth management customer numbers in the Pearl River Delta area increased by 51 per cent in 2016 compared with the previous year. It grew its Asian mortgage books by the same amount.

 

 

While retail banking revenues were up in Asia thanks to this growth in mortgages and higher current account and savings balances, downbeat sentiment among fund buyers in Hong Kong weighed on wealth management revenues from the region. However, there were signs of recovery in wealth management during the first quarter of the year. Income from investment distribution increased, as a result of higher sales of mutual funds, retail securities and insurance as investor confidence increased. Meanwhile retail banking revenue also continued to grow. This helped push pre-tax profits in Asia up 16 per cent during the first three months of the year, to $4.1bn.

At the same time as growing the business in Asia, management has been downsizing its private banking business. This business is now focused on providing wealth management services to the management and owners of the bank's corporate clients. Downsizing meant writing off $3.2bn in goodwill last year associated with its European private banking business. The upside to this reduced exposure to Europe and the UK means it is less at risk of an unfavourable Brexit outcome than peers such as Lloyds (LLOY) or Barclays (BARC).

Crucially HSBC has made good progress on its targets to strengthen its balance sheet. Selling its underperforming Brazilian operations in July last year may have taken a bite out of net interest income, but it also reduced the bank's low-return risk-weighted assets. By the end of March 2017 the bank's risk-weighted assets stood at $853bn, meaning it has already exceeded its 2015 target of reducing these assets by around $290bn by the end of 2017.

Costs have also been reduced. Adjusted operating costs were 4 per cent lower last year, leading management to increase its savings target to $6bn during 2017, around $1bn above the top end of its original target. At the end of March management said it was on track to achieve this. The bank's core tier-one equity ratio also improved substantially to 14.3 per cent by the end of March, compared with 13.6 per cent at the end of December. Meanwhile, the US business paid a dividend to the group for the first time in almost a decade, which could help fund future share buybacks.

HSBC HOLDINGS (HSBA)

ORD PRICE:676.9pMARKET VALUE:£136bn
TOUCH:676.8-676.9p12-MONTH HIGH:715pLOW: 419p
FW DIVIDEND YIELD:5.8%FW PE RATIO:12
NET ASSET VALUE:919¢LEVERAGE:14.6

Year to 31 DecTotal operating income ($bn)Pre-tax profit ($bn)*Earnings per share (¢)*Dividend per share (¢)
201462.122.88650
201557.820.47151
201650.219.36551
2017*50.120.36951
2018*51.521.07151
% change+3+3+3

Normal market size: 3,000

Matched bargain trading

Beta: 1.15

*Shore Capital forecasts, adjusted PTP and EPS figures

£1=$1.29