HSBC profits slump but market increasingly optimistic it can maintain its dividend

7th November 2016

HSBC has reported an 86% fall in third quarter profits to $843 million but analysts are increasingly optimistic it can maintain its dividend as its capital position improves.

The figures include two big exceptional items- a $1.7 billion write down from disposal of HSBC’s Brazilian business, and a $1.4 billion change in the bank’s credit spread. The bank also suffered a $658 million headwind from the strengthening dollar.

Stripping these items out, adjusted profit rose 7% to $5.6 billion.

The bank’s capital position improved, with its CET1 ratio rising to 13.9% from 12.1% at the end of June, though this was largely down to a change in capital requirements for Chinese bank BoCom, one of HSBC’s strategic investments.

Adjusted operating expenses fell 3.5%, while adjusted revenues rose 2.1%, resulting in positive jaws of 5.6% in the third quarter (jaws being the difference between the rate of change in revenues and costs. Loan impairment charges jumped by 30% to $566 billion.

Laith Khalaf, Senior Analyst, Hargreaves Lansdown says: “HSBC’s results show you can’t make an omelette without breaking eggs, and the bank’s efforts to refocus on its Asian roots have weighed down reported profits this quarter, thanks to a large loss resulting from disposal of its Brazilian operations.

“However the underlying business numbers from HSBC were pretty positive, with costs and revenues both heading in the right direction, and the bank’s capital position improving significantly, though this was largely down to a change in regulatory requirements.”

“Like the other UK banks, low interest rates are depressing returns on HSBC’s lending activities, and there has been a jump in provisions for bad loans, though these remain at relatively low levels.”

The market seems to be gaining confidence that HSBC is going to be able to maintain its dividend, and the bank now trades on a forward yield just above 6%, compared to almost 8% earlier in the year. That’s still pretty high, but has been pared back by a resurgent share price, which has risen by around a third over the last three months.’

Russ Mould, investment director at AJ Bell says: “Another 4.5% gain in HSBC’s shares, even after a messy and complex set of figures, intensifies the pain which many fund managers are suffering as “expensive defensives” fall out of favour and potential “value” sectors like banks start to move higher.

“Even after a surge from barely 400p a share to north of 600p, HSBC’s £118 billion market cap compares to stated shareholders’ equity (or asset value) of £150 billion (assuming a sterling/dollar cross rate of $1.25).

“Stocks which trade at a discount to asset, or book, value, are the territory of contrarian, value funds and investors, who are having a field day as expensive stocks like Reckitt Benckiser, Shire and Unilever falter after even the tiniest disappointment in sales or profits, while the downtrodden, unloved banks motor higher despite a further round of ugly numbers.

“On a stated basis, HSBC’s third-quarter earnings fell 86% but anyone prepared to be forgiving and ignore no fewer than ten large “one-off” items will point to the adjusted pre-tax profit number, which rose 7%.

“Key negative items included a $1.7 billion loss on a Brazilian disposal, $1 billion of restructuring costs and $456 million of customer compensation payments (presumably PPI related). In addition, loans and deposits continue to fall year-on-year.

“However, the share price is rising because HSBC may be shrinking its way back to health – the Brazilian disposal means risk-weighted assets continue to fall sharply (see chart below), key regulatory ratios like Common Tier 1 Equity continue to improve and loan impairment charges remain low at just $453 million for the quarter.

“The quality of the Q3 numbers may therefore be low and what growth there is may be coming from cost-cutting but it does at least seem as if the risks are falling as the balance sheet shrinks and this may be all it takes to underpin the stock, at least while it trades on less than one times book value.”

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