Stock in Focus: Standard Chartered

Standard Chartered is amid a massive upheaval. Analysts expect the turnaround to be difficult but think CEO Bill Winters has the right approach

Stephen Ellis 16 March, 2017 | 2:14PM
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Standard Chartered (STAN) is amid a massive upheaval, as both internal and external forces have laid it low. We expect the turnaround to be difficult but think CEO Bill Winters has the right approach. He’s identified the issues with the bank’s risk controls, culture, cost base, and overall sprawl across markets where it lacks a deep understanding of the competitive dynamics.

While we expect the bank to slowly right itself, we do believe that structural changes in the trade finance market, increased fraud detection rules and higher trade barriers, as well as slowdowns in China’s growth and commodities will mean the bank’s days of consistent 15%-20% growth are behind it. The bank has also been slow to adapt to regulatory changes around capital, which have boosted capital buffers and risk-weighted asset intensity at the expense of lower returns.

Standard Chartered's plan over the next several years makes sense. The firm is about halfway through its nearly $3 billion of head count and branch rationalizations and restructuring another $100 billion of risk-weighted assets, roughly 30% of the bank, to deliver improved returns.

It is also about halfway through its $3 billion-plus investment program to upgrade systems to better handle compliance, while also boosting efficiency via digital means. The need for stronger internal compliance functions is critical, because we believe financing working-capital needs for Chinese companies and banks that are dealing with increasing levels of nonperforming loans going forward will be a growing source of risk.

We expect subdued growth in trade finance due to structural external headwinds, though Southeast Asia offers growth opportunities. China, the most important market for trade finance, is seeing slower growth, and future growth is being driven by less-trade-finance-intensive internal consumption, as opposed to manufacturing exports.

We also expect that, as the Chinese financial system liberalises, the dominant Chinese banks will intensify competition for new fee opportunities such as the renminbi, and the use of trade finance instruments such as letters of credit may decline as the capital markets develop further.

How Does Standard Chartered Compare?

We do not think Standard Chartered has a moat; or competitive advantage over its peers. It offers a deep network of connections worldwide to help clients conduct global trade, where banks help customers complete export and import transactions and manage payments and working-capital needs, but its past excess returns were earned more as a result of the bank’s poor risk controls, the lack of accountability within its culture, and healthy market dynamics that have now reversed.

Using our bank moat system framework, we see no funding cost advantages, as local peers are likely able to source cheaper local financing via retail deposits, very low credit costs, which is good, and high operational and regulatory costs.

From a systematic perspective, we rate both China and the United Kingdom as fair banking systems, some of the lower ratings for system stability among systems we cover. Notably, the bank has about $25 billion in assets to India, rated poor under our framework, where slowing economic growth, weak progress on banking reform, and high levels of indebtedness have caused substantial loan losses over the past few years.

While we don’t have ratings for many of the emerging markets Standard Chartered operates in, such as Korea, Pakistan, and Sri Lanka, we consider their emerging-market nature as an indication that banking system stability is not very good, given the lack of a more developed financial markets structure.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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About Author

Stephen Ellis  Stephen Ellis is a senior stock analyst on the Energy Team.