Management overlays buffer banks from tariffs

PETALING JAYA: The massive management overlays that local banks are still sitting on can buffer against any increase in credit costs arising from the negative impact of US tariffs on borrowers.

Additionally, the overlays can also function as an earnings driver, if they are written back, said CGS International Research (CGSI Research).

A management overlay refers to additional loan loss provisions set aside beyond those derived from Expected Credit Loss models.

The research house said for the eight Malaysian banks under its coverage, excluding CIMB Group Holdings Bhd, the overlays totalled RM4.86bil at the end of last year.

Among these, the highest overlay was Malayan Banking Bhd’s RM1.7bil, followed by Public Bank Bhd’s RM1.26bil.

“Our sector’s total management overlay of RM4.86bil accounted for 23.4% of their gross impaired loans at the end of last year.

“Assuming 50% provision for new impaired loans, overlays could cushion provisions for an increase in banks’ impaired loans of up to 46.8% (representing an increase in impaired-loans ratio from 1.11% at the end of last year to 1.63%),” the research house said in a report yesterday.

CGSI Research said banks have the choice of partially writing back their overlays, subject to Bank Negara’s approval.

A write back represents the removal or reduction of these adjustments to realign the portfolio with its original or underlying strategy.

CGSI Research said based on its simulation, it estimated that every 10% write-back in the sector’s overlays would increase net profit this year by 1.2%.

“The impact on net profit would be the largest for Affin Bank Bhd at 4.3% as its overlay was high at RM296.1mil at the end of last year, equivalent to 57% of our projected net profit for the bank this year.

“On the flipside, the positive impact would be the lowest at 0.4% for Bank Islam Malaysia Bhd’s forecast net profit this year,” the research house said.

It said the sector’s overlays contracted by RM817mil in 2023 and RM792mil in 2024. However, the quarterly movement pattern of overlays differed for the two years.

“The write-back in overlays in 2023 mainly came in the second quarter (2Q23). Banks recorded a huge net write-back of RM412mil in overlays in 2Q23, lifted by the net write-back of RM243mil by RHB Bank Bhd and RM99mil by Ammb Holdings Bhd.

The trend of net write-backs of overlays was more balanced last year at RM181mil to RM217mil per quarter in 1Q24 to 4Q24,” CGSI Research said.

Moreover, the research house said for the two-year period from December 2022 to December 2024, the largest write-back in overlays was RM530mil by RHB Bank, followed by Public Bank’s RM476mil.

“However, we are positive on RHB Bank’s move to replenish its overlay by RM17mil in 4Q24. Meanwhile, Maybank’s overlay was unchanged at RM1.7bil in December 2022 to December 2024.

“AMMB was an outlier as it increased its overlay by RM94mil from RM420mil at end-December 2022 to RM514mil at end-December 2024, primarily due to its proactive move to top the amount up by RM255mil in 4Q23 for general credit risks,” CGSI Research said.

In terms of the positive impact of write-back of overlays, the research house said the biggest positive impact was 32.8% on Affin Bank’s 2024 net profit, followed by 5.8% for Bank Islam and 5.1% for Public Bank, based on its estimates.

“The write-back in overlay even lowered Public Bank’s loan loss provisioning last year to a mere RM500,000 and enabled Affin Bank to record a significant net write-back of loan loss provisioning of RM165.6mil last year.

However, the impact was negligible on the net profits of Maybank, Hong Leong Bank and RHB Bank due to no or minimal changes in their management overlay last year,” CGSI Research said.

The research house maintained “overweight” call on banks and said the uptrend in the dividend payout ratios for most banks is another potential re-rating catalyst, apart from the write-back in overlays.

“The dividend yield for the sector is also attractive at 5.7% for 2025. The downside risks to our call are material deterioration in loan growth and asset quality.

“Our top pick for the sector is Hong Leong Bank Bhd with a target price of RM31.40,” CGSI Research said.