Hong Kong banks unveil capital replenishment plans in 3Q14

But there's potential capital shortfall.

Bank of East Asia (BEA), Chong Hing Bank (CHB) and HSBC have rolled out/completed their capital replenishment plans in 3Q14.

According to a research note from Maybank Kim Eng, BEA plans to issue 222m new shares (9.5% of current issued shares) to Sumitomo Mitsui Banking Corporation (SMBC), with this possibly helping lift BEA’s 2015F CET1 CAR by 1.3ppt.

CHB and HSBC have issued AT1 (Additional Tier-1) capital of USD300m and USD5.7b recently, with thi possibly helping raise their tier-1 CAR by 3.3ppts and 0.4ppt by 2015.

The report noted that in its view, the recent capital replenishment of Hong Kong banks could be under the directive of regulators.

Here's more from Maybank Kim Eng:

We believe the HKMA may expect local banks to achieve the minimum CAR requirement before 2018.

Similarly, the UK Prudential Regulation Authority will soon finalize the countercyclical capital buffer and Pillar 2A capital requirement for HSBC. The floor of its CET1 CAR and Tier-1 CAR could reach 14% and 15.5%.

To lower funding costs, banks also intend to conduct the capital replenishment before US interest rate hikes. The funding cost of the AT1 capital issued by CHB and HSBC was only 6.5% and 5.25-6.375%.

Potential capital shortfall. Based on our perceived regulatory requirement, we estimate that BOCHK, CHB, Hang Seng Bank (HSB) and HSBC may need to increase their CET1 capital. BOCHK should be able to raise its CET1 CAR to above 13% by 2017 even if it maintains a dividend payout ratio of 40% during 2014-17. Both HSB and HSBC need to cut their DPS by 50% and 40% (vs the DPS in 2013) during 2014-17 before their CET1 CAR rises to above 13% and 12% by 2017.

Meanwhile, we estimate BEA, BOCHK, Dah Sing Bank (DSB) and HSB need to increase their AT1 capital by HKD2-15b. We expect minimal EPS dilution effect of 0.5-1.6% for 2015F assuming a net funding cost of 1.5% for this capital.

Potential stimulus to M&A in small banks. To minimize the funding cost of capital replenishment, we believe it will be at best for:

(i) the parent company of CHB, Yue Xiu Financial Holdings, to privatize the bank for future capital injection; and

(ii) the sale of DSB to a large-sized financial institution with higher credit rating.