Divergent monetary policies put ASEAN banks under threat

Capital outflows, deteriorating loans are key risks.

The word "normal" has starkly different meanings for the world's two largest economies, and ASEAN banks will bear the brunt of divergent policies from the United States and China.

"ASEAN countries are caught between divergent normalisations of bipolar extremes between the US and China. Higher US interest rates would trigger capital outflows and put further strain on asset quality. Slower but sustainable growth in China’s 'new normal' would drag GDP growth of ASEAN countries lower by up to 1ppt," UOB Kay Hian said in a report.

The report noted that the divergence between US and China will result in net interest margin (NIM) compression for regional banks, as financial institutions grapple with shrinking loan demand, deteriorating asset quality, and the risk of capital outflows.

"We expect NIM to compress by a severe 10bp for Malaysian banks in 2016 due to competition for deposits. In Thailand, banks have cut lending rates by 25bp since mid-Mar 16 to ease the pressure on the corporate sector, which would result in NIM compression of 10bp this year. The Indonesian government has demanded that banks lower lending rates to the single digits and NIM is expected to erode by 100-150bp over the next three years. NIM compression would result in lacklustre growth for net interest income in Malaysia, Thailand and Indonesia," UOB Kay Hian said.

In terms of individual countries, UOB Kay Hian expects Singapore banks to benefit from higher US interest rates and a recovery in Chinese trade loan demand. Meanwhile, Malaysian banks will grapple with rising credit costs on back of mounting bad loans, while Thai banks will struggle with weak domestic consumption and lower lending rates. Indonesian banks are expected to enjoy robust loan growth, but macroeconomic policies will cut NIMs in the next three years.