Interactive Investor

High-yielding HSBC strengthens finances

3rd August 2015 11:54

Lee Wild from interactive investor

HSBC made more than expected both in the second quarter and first half of 2015. Its common equity tier 1 ratio (CET1) - an industry measure of financial strength - impressed, too, and should underpin the generous dividend. Getting $5.2 billion for its Brazilian business will improve the ratio further. However, with rising regulatory costs and higher capital retention, there's a feeling in the City that interest rates will have to rise before we see a significant upshift in the share price.

Pre-tax profit jumped 18% to $6.6 billion in the second quarter ended 30 June compared with consensus estimates for little change. Hong Kong chipped in more than half of that - $3.5 billion - buoyed by disposal gains, and the retail banking and wealth management division grew by 35%.

Buoyant equities and FX were behind growth at the global banking and markets (GBM) unit and helped group half-year profit rise by a tenth to $13.6 billion. Strip out currency moves and one-off items and it was up 2% at $13 billion. A 4% increase in adjusted revenue and $400 million decline in impairments was partially offset by a 7% rise in costs. Annualised return on equity (ROE) of 10.6% remains above its 10% target.

A 50 basis point improvement in CET1 to 11.6% since the beginning of the year has been well-received. Consensus estimates had been for 11.4%. The Brazil sale adds another 50 basis points to give 12.1% pro-forma.

"We continue to believe that a combination of asset disposals, GBM risk-weighted assets (RWA) reductions & capital discipline will result in the group's capital ratios surprising positively over the next 12 months pushing the group towards the top end of its 12-13% CET1 target range," says Stephen Andrews at UBS. However, he still thinks the shares are worth just 595p.

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But progress on its strategic review, announced in June, is tipped to pick up in the second half. Chief executive Stuart Gulliver set out 10 commandments designed to maximise revenue, significantly reduce operating expenses and meet obligations regarding the structure of the business. We'll get a progress report at the third-quarter results in November.

"Work is proceeding on all of our actions, in particular those aimed at reducing risk-weighted assets, cutting costs and turning around or disposing of underperforming parts of the business," the bank said. "Our performance in July was satisfactory."

A review into deciding the best place for HSBC's global headquarters will be concluded by the end of 2015. Chancellor George Osborne's Summer Budget may have swayed HSBC chiefs back in favour of London. The unpopular Bank Levy is greatly reduced and only relates to UK profits, while a new 8% tax on domestic bank profit is a huge benefit to HSBC.

HSBC shares are little changed Monday, and currently trade on 10.7 times forward earnings and 1.2 times tangible net asset value (TNAV). There seems room for upside given strategy potential, although earnings growth over next few years is predicted to be modest. Still, a prospective dividend yield of 5.6% will tempt income investors, and rates look set to rise soon - a 200 basis point hike adds 1.4% to ROE, or 15% to EPS.

This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.