Part II – How Do We Analyze Banks?

banks SG


In Part I of the article, loans-to-deposits (LTD) ratio and funding sources were some of the things to keep a look out for. Here are more factors to look out for in Part II of How Do We Analyze Banks? Read on!


Capital Adequacy Ratio (CAR)

After the global financial crisis in 2008, regulators have stepped up the capital requirements for banks to hold additional capital to improve their liquidity and solvency. The capital adequacy ratio (CAR) measures whether a  bank has sufficient capital to absorb any losses as well as to provide additional protection for depositors. Based on the Basel III requirements, different countries have their own minimum capital requirements to meet for their banks. In Singapore, the minimum is currently 10% and will be increased to 12.5% by Jan 2019. If the CAR falls below the minimum threshold, banks would be required to raise additional capital such as issuing preference shares or debt in order to meet the required capital. Currently, OCBC Bank (SGX: O39), DBS Bank (SGX: D05) and UOB Bank (SGX: U11) have a total CAR of respectively, well above the minimum threshold.


Net interest margin

The net interest margin (NIM) measures a bank’s profitability. A quick way to calculate can be seen from the formula below:


Net Interest Margin = (Interest Income – Interest Expense) / Average Earnings Asset


where Average Earnings Assets = loans & receivables, bonds, stocks and investment properties which the bank holds


Below is a table showing the 3 local banks’ net interest margins (NIM):


Net Interest Margin FY2013* FY2012*
OCBC Bank (1Q2014) 1.64 1.77
DBS Bank (2Q2014) 1.62 1.70
UOB Bank (2Q2014) 1.72 1.87

*Financial year is based on individual company’s fiscal year and may not coincide with one another

Source: Company website and annual reports


Asset Quality

Asset quality of a bank measures the ratio of non-performing loans to its total loans portfolio. To be conservative, non-performing loans (NPL) should include substandard, doubtful and loss assets. It should also include restructured assets. Non-performing assets tend to be low for developed economies such as Singapore and Hong Kong and when the economy is growing adequately. However, investors should look at how much NPL has increased as a % of total loans during a financial crisis and which industries do these loans are concentrated in.


Value in Action

The remaining few factors investors should keep a look out for is the profitability ratio such as the net interest margin (NIM); capital adequacy ratio (CAR) and the asset quality.


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All views and opinions articulated in the article were expressed in Willie’s personal capacity and do not in any way represent those of his employer and other related entities. Willie does not own any shares in the companies mentioned above.


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