Hong Kong versus Singapore: 10 years of banking returns

Whether it is ease of doing business, cost of living or technological capabilities, it’s common for people to compare Hong Kong and Singapore.

Similarities abound. Not least in finance, where the two are regional gateways to their larger neighbours of China and Southeast Asia respectively. They are also international financial centres with some of Asia’s strongest banks.

Banks are typically viewed as conservative and stable stocks by investors. This is mainly because they tend to combine solid and predictable dividends with incremental growth in earnings.

However, the start of the subprime crisis in the US and the subsequent Global Financial Crisis saw banks, particularly in the West, hit hard.

Asian banks were not immune to the damage, but their businesses were relatively more protected, partly due to their larger capital buffers. Banks in Hong Kong and Singapore had learnt their lesson a decade earlier in the Asian Financial Crisis of 1997 – particularly regarding the importance of holding sufficient capital.

Importance of dividends

As we know, a stock’s total return does not come solely from its price return but a significant portion is also derived from reinvesting dividends. In Asia this is particularly true, as over a third of total returns come from dividends.

So how have these banks’ shareholders in the two financial centres fared over the past 10 years and how much of a role have dividends played in generating long-term returns?

As you can see below, total returns for Singapore and Hong Kong’s banks have all been positive from 2007-2017.

Past performance is not a guide to future performance and may not be repeated. For illustrative purposes only and not to be considered a recommendation to buy or sell.

Past performance is not a guide to future performance and may not be repeated. For illustrative purposes only and not to be considered a recommendation to buy or sell.

However, investors in Singapore and Hong Kong banks who reinvested their dividends yielded a much more attractive longer-term return than those who did not.

For example, if you had invested S$1,000 in the three big Singapore banks back in 2007 and then reinvested those dividends, today you would have S$1,597 – a total return of +59.7%. Compare this to just the price return of the three big Singapore banks – based purely on capital appreciation and not reinvesting dividends – and the 10-year return falls to +4.9%.

The case for reinvesting dividends is similarly strong when looking at Hong Kong banks. Placing HK$1,000 in the three Hong Kong-focused banks back in 2007 and then reinvesting their dividends would have given you HK$2,280 today – a total return of +128%. This compares to a price return of +43.7% over that same decade.

It shows investors the importance of reinvesting dividends over the longer term, as well as reminding us that diversification when deciding where to invest – even within an asset class – is crucial.

Showbhik Kalra, Head of Intermediary & Product, Asia Pacific, said:

“One of the biggest advantages of investing that anyone can access is compounding. Compounding in this instance is simply dividends being re-invested back into the stock, that going forward also benefits from growth and dividends.

As one can see, compounding is incredibly powerful and when one starts investing (and whether one remains invested) far outweighs how much one actually invests. This is a critical point – as only by taking the appropriate amount of risk initially, do investors not become ‘forced sellers¹’.”

Why do payout ratios matter?

Although the total dividend amount and yield are clearly important for investors, the dividend payout ratio of a company should also be considered.

This is the percentage of its total profits that it pays out in dividends. Broadly speaking, a higher dividend payout ratio is something investors should look out for as an indicator of a company’s willingness to share profits with shareholders.

However, it is not necessarily always the best barometer of a bank’s long-term prospects. This is because banks tend to hold back profits in order to form extra capital buffers (that will provide a measure of protection) in the event of another financial downturn.

Where next for banks?

The current landscape for banks in both Hong Kong and Singapore looks favourable. Given the interest rates in both are influenced by the US, the US Federal Reserve’s (Fed) gradual hiking of interest rates provides opportunities for growth in profits.

This comes primarily through higher net interest income² (NII) which should see Hong Kong and Singapore banks raise interest rates in step with the Fed.

Sherry Lin, Analyst, Hong Kong & Singapore Banks said:

“Both Hong Kong banks and Singapore banks have done well year-to-date as the prospect of higher interest rate increases following the US Fed’s rate hikes that started in December 2016.

Rising interest rates are important because these banks have very strong deposit franchises. A large share of these deposits is in the form of current and savings deposits, where interest rates have been very low.

In the low interest rate environment, margins on these deposits get compressed but they also widen quickly as interest rates move higher.

Hong Kong, due to its currency peg to the US dollar, is a much more straightforward investment story. Singapore, on the other hand, will likely see a more gradual rate movement given its exchange rate policy. Directionally, deposit margins should rise and in turn drive banks’ profits higher.

On dividends, we expect payout ratios to be maintained in the 35-45% range for Singapore banks while large Hong Kong banks have historically had higher pay-out ratios (40-70%). In recent years the latter have paid out special dividends after selling stakes they held in Chinese banks. This explains the higher returns at Hong Kong banks versus Singapore banks.”

Past performance is not a guide to future performance and may not be repeated. For illustrative purposes only and not to be considered a recommendation to buy or sell.

^{1. A person that has to sell something because they need the money.↩}

^{2. Net interest income is the difference between revenue generated by a bank’s assets (such as loans and mortgages) and the expenses associated with paying out its liabilities (customer deposits).↩}