Standard Chartered fall is not buying opportunity

Standard Chartered
998.4p-96.6p
Questor says SELL

STANDARD Chartered [LON:STAN] shares offer investors exposure to the fast-growing Asian economies and a dividend yield of 4.7pc. They are also starting to look cheap on some measures having fallen by more than a third in the last year. However, there are a number of reasons why, despite those attractions, Questor is not a buyer.

Banking is ultimately a very simple business: you take deposits from customers and pay them 0.5pc on their savings; then you loan that money out at a much higher rate - let’s say 5pc. The difference, in this case of 4.5pc, is known as the net interest margin. This has to cover your costs and the hits from any loans that go bad and are never repaid. The rest is profit, which can be reinvested in the company or returned to shareholders.

Banks conduct other activities - such as trading on financial markets, advising on mergers and acquisitions and managing customer’s investments - but these are peripheral to the core business of taking deposits and making loans.

Standard Chartered grew both during the past decade as the Asian economies in which it operates expanded. The total size of the assets on the balance sheet has more than tripled during the pastten years, from $215.1bn in 2004 to $674.4bn at the end of 2013.

Profit grew as the interest repayments on the loans it had made exceeded what it was paying to savers. Consequently, Standard Chartered’s shares increased from about 930p at the start of 2004 to 1800p in March of last year.

Would that the trend could have continued. However, there are now worries about the quality of loans on its books, which could upset the delicate alchemy of banking.

Standard Chartered’s profits fell 16pc in the three months to September, largely because of impairments on commercial loans.

The bank said quarterly impairment charges increased by $250m to $593m, as corporate and institutional clients were hurt by weakening commodity markets.

In a further worrying development, Standard Chartered, which is usually bullish on China’s prospects, sounded a cautionary note on the world’s second largest economy: “We remain watchful in India, in China and of commodity exposures more broadly, where we have continued to tighten our underwriting criteria and reduce our exposures.”

This raises the possibility that Standard Chartered’s growth over the past decade may have come at the expense of future problems; it certainly wouldn’t be the first time a bank to chase growth, trip up and find itself with a big hole in the balance sheet.

Questor thinks that the bank’s attempts to tighten underwriting criteria may be analogous to bolting a long-vacant stable. This quarter’s impairment charge of $593m is equivalent to 0.01pc of the banks $382.2bn in total assets - the loans it has made to customers and other banks - at the end of 2013. If you are of the belief that Standard Chartered has over-stretched itself during the past decade of gang-buster growth, then there could be an awful lot more to come. That is especially true if the economies to which the bank is most exposed - 20pc of its assets originate in Hong Kong, 17pc in Singapore, 9pc in Korea, 17pc in other Asia Pacific countries, and the balance in Middle East, Africa and US, UK and Europe - start to suffer.

The bank’s shares have fallen 44pc from £18 in March 2013 to 998.4p yesterday, and now trade on 10 times forecast earnings. This makes them look cheap given Standard Chartered’s track record for growth. But until the bank proves that can be replicated, and the problems aren’t worse, the shares are a sell.