Hang Seng Bank's performance increased significantly in the first half of 2023, and its net interest income performance was impressive, mainly due to a sharp recovery in interest spreads, and the balance and liabilities continued to contract. Currently, real estate risks in mainland China are fully exposed, and companies are actively reducing exposure. We expect that subsequent asset quality will enter a stable stage, and high performance growth throughout the year is guaranteed. Maintain the “Overweight” rating.

Matters: Hang Seng Bank released its 2023 mid-year report. Operating income/net profit for the first half of the year was HK$19.04 billion /HK$9.83 billion, respectively, +29.4%/+78.5% year-on-year.

There has been a marked recovery in performance. 1) Interest income increased sharply, and non-interest business performance was stable. 2023H1, Hang Seng Bank's net interest income +42.1% year-on-year, mainly driven by overseas interest rate hikes, led to a recovery in yield. In addition, net service fee revenue was -2.9% yoy, and other non-interest income was +5.7% yoy. 2) The cost-to-income ratio has declined from a high level. 2023H1, operating expenses +5.0% year-on-year, were significantly lower than the growth rate on the revenue side. Compared with the first half of last year, cost revenue fell 8.3 pcts to 35.9%. 3) Reduced credit and macro-level improvements have led to a decline in provision planning. In 2023H1, changes in anticipated credit impairment losses and other credit impairment increases were -8.4% to HK$1.92 billion compared with the second half of 2022, a decrease of 65.2% compared to the second half of 2022, mainly due to lower credit balances and reduced provision demand. Furthermore, improvements in macroeconomic expectations also supported impairment losses.

Interest business: The scale of capital and liability has shrunk, and interest spreads have risen sharply. 1) Deposits and loans have declined markedly, and assets and liabilities have shrunk.

2023H1 deposits/loans were -8.0%/-4.1% respectively compared to the beginning of the year. Mainly, savers seek higher-yield monetary funds and other products, while high borrowing costs suppress credit demand. Affected by the decline in deposits and loans, 2023H1, total assets/total liabilities fell 8.6%/9.6% respectively from the beginning of the year. 2) Retail credit continued to grow, and deposit regularization weakened. 2023H1, Hong Kong's local retail loans were +6.1% compared to the beginning of the year. Among them, ordinary mortgages and credit cards increased by 5.0%/7.2% respectively from the beginning of the year, while Hong Kong's local-to-public loans/loans outside Hong Kong decreased by 14.3%/18.7% respectively.

In 2023H1, time deposits fell 11.7% from the beginning of the year. The decline was greater than overall deposits (-7.6% from the beginning of the year), and the share of fixed term deposits fell slightly by 1.9pcts to 39.1%. 3) Interest spreads jumped to 2.09%. 2023H1, net interest spread increased 62 bps over the same period last year and 20 bps over the full year of last year, which is the main driving force behind the increase in net interest income.

Non-interest-bearing business: Revenue from intermediary business declined slightly, while other non-interest-bearing businesses picked up. 1) The increase in service fee expenses led to a decrease in net revenue. In 2023H1, service fee revenue/expenditure was +5.1%/+23.3% yoy, respectively.

Among them, credit card business revenue increased 26.8% year on year, which is the main driving force for the increase in service fees. 2) The performance of insurance services drives the growth of other non-interest income. 2023H1, insurance service performance +13.1% year-on-year, accounting for an increase of nearly 100%, supporting other non-interest income +5.7% year-on-year.

Asset quality: The non-performing rate has increased significantly, and domestic housing exposure has been reduced. 1) The balance and ratio of non-performing loans have increased. The non-performing ratio of 2023H1 companies increased by 29bps to 2.85% from the beginning of the year, and the non-performing loan balance increased by 7.0% from the beginning of the year. At the same time, the loan balance decreased by 4.1%, which also had an impact on the increase in the non-performing rate. 2) The provision coverage rate has increased slightly. The 2023H1 provision coverage rate was +0.36pct to 55.7% compared to the beginning of the year, and the ability to offset risk is basically stable. 3) The balance of real estate loans in mainland China has declined markedly, and the bad balance is relatively stable. The balance of real estate loans in the Mainland was -21.2% compared to the beginning of the year, and the overall risk exposure was reduced by HK$10.99 billion. Non-performing loans were +2.6% compared to the beginning of the year. The current non-performing ratio is 39.6%, and risk exposure is relatively adequate.

Risk factors: The macroeconomic growth rate has declined more than expected; asset quality has deteriorated sharply; the level of net interest spreads has declined more than expected; and the implementation of the company's development plan falls short of expectations.

Investment advice: Business performance has increased dramatically, and risk exposure has been reduced. Hang Seng Bank's performance increased significantly in the first half of 2023, and its net interest income performance was impressive, mainly due to a sharp recovery in interest spreads, and the balance and liabilities continued to contract. Currently, real estate risks in mainland China are fully exposed, and companies are actively reducing exposure. We expect that subsequent asset quality will enter a stable stage, and high performance growth throughout the year is guaranteed. Due to the sharp increase in overseas interest rates and the impact of scale expansion, we adjusted the company's 2023/24 EPS forecast to HK$8.94/9.78 (the original forecast was HK$9.00/12.13 respectively), and added the EPS forecast for 2025 to HK$10.60. The current stock price corresponds to 0.85 xPb in 2023. According to the adjusted profit growth rate forecast, based on the three-stage dividend discount model (DDM), we estimate the company's target valuation of 1.04x 2023E PB, corresponding to the target price of HK$105, maintaining the “increase in holdings” rating.