Correct me if I’m wrong, but wasn’t HSBC the first to come out early in February to warn on their bad-debt write-offs of 10.6 billion USD for sub-prime mortgages? With them kicking off the trend, we should have seen more disasters coming, disasters like what’s happening with New Century Financial Corporation, already on the brink of getting de-listed by the NYSE. HSBC leads the No. 1 spot in sub-prime lending at 12.3 billion USD in originations in 2006. The No. 2 spot goes to New Century Financial at 12.2 billion USD in originations, and No. 3 (soon to be No. 2) is Countrywide Financial at 10.1 billion USD in originations.
The thing is, with the uncertainty that still surrounds the US sub-prime business; it still scares me, as it should with all other investors. We’ve already seen what happened to the market two days ago with New Century’s announcement – the second crash of the year. More write-offs simply implies a bad housing market, which reflects a slow-down in our economy. And in all honesty, I don’t think we’re out of the clouds just yet. I see more defaults and charge-offs to increase in 2007. This goes for HSBC too. They’ve already made additional impairment charges for non-delinquent loans that are coupled with higher rates, making the chances for their defaults more likely. Borrowers might even take this opportunity to join the crowd and not repay – we can’t deny that the possibility lingers in existence.
Outside of their sub-prime impairments though, HSBC’s full-year profits were still up, and still came in higher than what the market was expecting after their warning. Commercial banking continued to lead other business-lines, and HSBC sustained their dominance in Asia, growing their bottom-line the most from China and India. A pre-tax profit in 2005 for this better part of the world was 7,091 million USD, and for 2006, this figure grew to 8,709 million USD (+22.8%). For 2007, if no major upsets comes out of the blue, I’d see a continued strong growth for this region, though a little more conservative at close to 9,700 million USD (+11.45%).
For other regions of their business, split into Europe, North America and South America, all will probably grow at single digits, but because of US operations, North America will more than likely drag their business (from more write-offs). In 2005, pre-tax profits came to 6,356 million, 5,915 million and 1,604 million USD, respectively for these continents. 2006 came to 6,974 million (+10%), 4,668 million (-21%), and 1,735 million USD (+8%). How will they fare for 2007? I’m going to assume a slower growth rate of about 7,600 million (+8%), 5,000 million (+9%) and 1,900 million USD (15%).
All regions combined, pre-tax profit for 2005 was 20.97 billion USD, 2006 was 22.09 billion USD, and from what I suggested above, 2007 will be 24,300 billion USD – and I’ll explain why in a bit.
HSBC group recognizes that Asia-Pacific (including the Middle East) and South America continues to add to their strong growth. Already they comprise of 50% of their global revenue. They’ve been focusing resources in these emerging markets, adding both staff and capital to keep business at pace (if not faster). I’d expect the continued emphasis in these regions to deliver additional revenues this year; hence why I forecast double-digit growth above. Besides, as the US economy starts to show signs of slow-down, we can only expect emerging markets to continue strengthening, an optimal place for increase international investments.
Investments in their Corporate, Investment Banking & Markets division should start to show some pay-offs this year. We saw the better performance of this business-line just under their commercial banking (that rose 21%), as emerging-market underwriting deals grew. With Asia-Pacific still eyed for growing underwriting and IPO activity this year, HSBC’s dominance will without a doubt help it fish some more business.
HSBC’s shares now trade at about 11.4 times what I believe 2007 EPS to be (above), which is approximately the same as other major European banks, take for example ABN Amro N.V. (11.55 times) or UBS AG (11.05 times). They’ve lost a bit of the premium they’ve always had above the others. Regardless, I think HSBC is still in the position to gain it back in no time.