Here are signs that Singapore banks' rally may be wearing off

Momentum to slow in 2H.

According to Macquarie Equities Research, it believes the rally in Singapore bank stocks is looking tired and it would look to pare down holdings at current levels. 

The solid top line numbers of 1Q13 may represent a short-term top for profitability, as business activity may cool off and margins remain under pressure in Singapore in upcoming quarters.

The stocks are not egregiously expensive but they are trading at levels that we perceive to be slightly above fair value. This implies limited upside risk in light of our overtly bearish house strategy call on Singapore.

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In our view, 1Q13 was an extremely solid quarter for DBS, and a good quarter for UOB. We were less impressed with OCBC’s results given the weakening pre-provisioning operating profit. In any case, we believe that upcoming quarters may look weaker for all, given slowing business activity and (we assume) lack of major investment banking deals vs 1Q13.

We thus expect a repetition of the pattern of 2012, which had a strong early start with earnings momentum slowing in 2Q-4Q13.

The stocks have rallied 15% YTD, ahead of the 8% rise in the FSSTI and the fourth best bank-sector performance by country in Asia. Taken as a whole, the sector is trading at 1.4x 2013E P/BV.

This is not only the sector’s historical mean, but more importantly in our view this level represents close to fair value – especially given the lack of operational catalysts to the upside. Of the three banks, DBS and UOB are trading at close to our estimate of fair value, while OCBC is most overvalued following the stock’s outperformance YTD.

This has attracted buying from investors seeking yield and/or a safe haven. While we don’t think this trend will persist, it informs our sense that the downside for the Singapore bank stocks is likely to be limited.

Operationally, any of the banks could beat our net income forecasts by posting near-zero provisioning, but we don’t think this – coupled with weak PPoP growth – would justify a continued re-rating of valuations.