If Singapore interest rates spike up faster than expected, cracks in corporate credit quality will start to show, Nomura said in a note on Tuesday.
It said that if rates increase by 100 basis points from current levels, putting the three-month SIBOR/SOR at 1.3-1.4 percent, non-bank corporate sectors will show cracks on credit quality.
Out of the three key sectors — manufacturing, commerce and building, construction and financial institutions (BCFI) — Nomura said it was most concerned about BCFI credit quality deterioration.
In its bear case of more than 100 bps rise in Singapore dollar rates, the proportion of BCFI firms it sampled that would have less than four times interest coverage would rise to 54 percent from 36 percent, based on 2016 levels.
But it added, it expected consumers would remain “solid,” even if rates rise rapidly, as most consumer debt is in mortgages which have strong collateral and low loan-to-valuation levels. Singapore households also have significant liquidity, Nomura noted, pointing to stringent regulation on mortgage-related total debt servicing ratios, which were calculated based on an interest rate 200 bps higher than current levels.
The best hedge against higher rates
To be sure, Nomura said the likelihood of a rapid rise in rates was low. It said its base case was for a benign asset quality cycle, robust loan growth and rising net interest margins.
“While we do not think that there will be a rapid rise in interest rates, to protect on the downside, DBS would be the best hedge, in our view,” Nomura said, noting BCFI, mainly mid-to-smaller property developers, make up the lowest proportion of its loan portfolio, at 25 percent, among the Singapore banks.
DBS would also be able to manage downside risk more effectively as it can rely on “cheap and sticky deposits” to keep its funding costs from rising, Nomura said.
Interest rate wildcard
While Nomura doesn’t expect the Singapore dollar to weaken against the U.S. dollar, it noted that if it does happen, Singapore dollar rates could increase at a faster pace than U.S. dollar rates, which could put the bear case scenario of a 100-200 bp rate increase in sight.
But it noted that it actually expects the Singapore dollar to strengthen, tipping the pair to fall to 1.30 by end-year, compared with around 1.31 now.
Nomura tipped buying DBS and UOB on dips, saying recent market moves don’t have much relation to improving fundamentals.
Nomura rates DBS at Buy with a S$32.00 target, UOB at Buy with a S$33.90 target and OCBC at Neutral with a S$14.10 target.