Cathay Financial Holding Co Ltd

TWSE:2882

Earnings Call Transcript 2022-Q2

[Operator]

Welcome, everyone, to Cathay Financial Holding Company's First Half 2022 Conference Call. [Operator Instructions] Now I would like to introduce Ms. Shu-Fen Cheng, the CIO of Cathay Financial Holding Company. Ms. Cheng, please begin.

[Shu-Fen Cheng, executive]

Thank you, Jesse. Good afternoon, and good morning to investors in Europe. Welcome to Cathay Financial Holdings 2022 Second Quarter Analyst Meeting. I am Shu-Fen Cheng, the Chief Investment Officer of Cathay Financial Holdings. Today, I will host the conference call. Thank you for joining us today. In the beginning, I would like to introduce the senior managers who are on the line. Today, we have Mr. Daniel Teng, Senior EVP of Cathay Financial Holdings; Ms. Grace Chen, Chief Financial Officer of Cathay Financial Holdings. Mr. Abel Lin, Managing Senior EVP of Cathay Life; and Mr. Chang Ya-Jou, Senior EVP of Cathay Century Insurance. Our IR team is also here as well.

For today's conference call, Chang from our IR team will present the second quarter results. After the presentation, we are open for Q&A session, in which senior management will be unmuted to answer your questions.

Without further ado, let me pass the call over to Chang for the briefing of second quarter results. Please?

[Yajou Chang, executive]

Thank you, Shu-Fen. Let's start with the business overview on Page 4, which provides a quick highlight on each subsidiary. Cathay United Bank delivered robust growth in deposit loans. Basic quality remained benign. Net interest margin expanded and net interest income grew 13% year-on-year, owing to rate hike. Fee income showed steady growth, driven by robust fee growth in credit cards and syndication loans.

Cathay Life, continuing value-driven strategy. protection-type first year premium continue to grow, delivered sound investment performance with after-hedging investment yield of 4.5%, benefiting from substantially improved hedging cost and intensive recurring yield. And then maintained solid capital position with RBC ratio of 337% as of the end of second quarter.

Cathay Century, the general insurance subsidiary. First half net loss reflected the impact of pandemic insurance losses. Excluding such impact, Cathay Century continued to deliver double-digit growth in premiums and maintained stable profit. Completed TWD 10 billion capital injection from financial holding company in June, with RBC ratio of 450%.

Cathay management subsidiary Cathay SITE, AUM was TWD 1.15 trillion, ranked No. 1 in the industry. Lastly, Cathay Securities and the #1 market share in sub-brokerage business.

Please go to Page 5. Cathay Financial Holding net income and EPS. Cathay Financial Holdings net income for the first half reached its second highest record of TWD 49.3 billion. The year-on-year earnings decline was mainly due to higher base period for investment and made favorable financial market last year. EPS was TWD 3.45.

Page 6 shows the subsidiaries' net income ROE. Cathay Life net income grew 10% year-on-year driven by robust net interest income and fee income. Cathay SITE set the record high first half earnings. Cathay Life delivered its second highest historical first half earnings. The year-on-year decline was due to the higher base period for capital gain in the same period for last year.

Cathay Century is attributable to pandemic insurance losses. On a consolidated basis, the holding company's ROE was 14.5% in the first half of 2022.

Please turn to Page 7 to see the book value of Cathay Financial Holdings. The consolidated book value of holding company was TWD 451 billion as of the end of second quarter. The book value decline, reflecting the sharp rise in bond yields and a decline in equity market. Book value per share was TWD 26.4. Cathay United Bank -- sorry.

Page 9 and 10 show our overseas expansion. Cathay United Bank Ho Chi Minh City branch launched its TMU business for corporate clients in July. Cathay Life Vietnam total premium increased 19% year-on-year. As for the operation in China, China subsidiary completed a software-based cross-currency swap transaction in May, the first among Taiwanese bank. Hong Kong Branch signed a memorandum with Hong Kong Quality Assurance Agency to promote and deepen cooperation in green finance.

Recently, it also signed a HKD 500 million sustainability-linked loan with Wallace, a well-known real estate group in Hong Kong. For Cathay Life's joint venture in China, the total premium grew 12% year-on-year.

Please turn to Page 12 for more details about the banking subsidiary. Cathay United Bank delivered robust loan growth across consumer mortgage and corporate loans. The total loan balance increased 8% year-on-year to TWD 1.9 trillion as of the end of first half year. Deposits grew 11% year-on-year to TWD 3 trillion. The demand-deposit ratio was 72%.

Interest yields shown on Page 13 benefiting from rising rates. Net interest margin and interest rates show significantly increase. The accumulated net interest margin and interest spread increased to 1.27% and 1.87%, respectively.

Page 14 shows the asset quality. Cathay United Bank maintained low NPL ratio at 8 basis points and coverage ratio at 1896%. Gross provision was TWD 2.1 billion, most was the general provision for the regulation requirement and the recovery was TWD 0.7 billion.

Please turn to Page 15. For SME and foreign currency loans. SME loan balance grew to TWD 287 billion, accounting for 15% of the total loan. Foreign currency loan balance was TWD 231 billion as we intergrew foreign currency loans while ensuring the asset quality.

Page 16 shows the offshore earnings. Offshore earnings were TWD 4.9 billion, up 9% year-on-year. The core earnings increase and the loan recovery supported the overall offshore earnings growth.

Please turn to Page 17 for fee income. Fee income grew 3% to TWD 8.8 billion in the first half of 2022, driven by the robust growth in credit card and syndication loans, offsetting the decline in wealth management fee.

Page 18 shows the breakdown of wealth management fee. Wealth management fees declined 3.8% year-on-year, while bancassurance fee grew 8% year-on-year partially offsetting decline in mutual fund and security products due to volatile capital markets this year.

Please move to Page 20 and 21 for Cathay Life's premium performance. Total premium was TWD 243 billion in the first half of 2022. The decline was due to lower renewal premium, reflecting the end of regular premium payment terms for some top-selling products as well as the lower first year premium resulting from higher basis period for investment-linked products last year.

On Page 21, first year premium FYP and the annualized premium APE was TWD 72 billion and TWD 23 billion, respectively, both declined year-on-year due to high base period for investment in policy and favorable capital markets last year. In addition to reduced sales momentum in second quarter 2022 due to the local pandemic. However, protection-type policy FYP continue to grow, supporting the contractual service margin.

Page 22 shows the value for new business. Based on the 2021 embedded value assumptions, value of new business for the first half year was TWD 13.6 billion, the decline was due to the same reason as we mentioned earlier, the high base period for sales volume in investment in policy last year as well as the pandemic induced slowdown in source momentum in second quarter 2022. However, with our continued efforts in growing the high-CSM protection type policy, VNB margin increased year-on-year.

Page 23 shows the cost of liability and breakeven asset yield. The reserve-based liability cost was 3.74% as of the end of first half 2022, improving 3 basis points year-to-date. The breakeven asset yield was 3.09%.

Please see Page 24 for the investment portfolio. Cathay Life's total investment was over TWD 7 trillion as of the end of first half of 2022. Overseas investment accounted for 69%. The investment return of each asset class are as follows: cash and cash equivalents, 0.3%, domestic equity, 10%. International loan equity 9.1% pre-hedged; domestic bond 2.6%, international bond, 3.9% pre-hedged; mortgage and secured loans, 1.9%; policy loans, 5.4%; real estate, 3.1%.

Overall investment yield are shown on Page 25 and 26. After-hedging investment remained benign at 4.48%. Year-on-year decline was mainly due to the higher base period for investment and favorable financial market last year.

On Page 26, left hand side pre-hedging recurring yield increased 32 basis points to 3.16% as new money yield from overseas bond surged year-to-date with increasing of positioning and cash dividend income increased year-on-year. The overall hedging result was net gain of 21 basis points in the first half,owing to Taiwan dollar depreciation and effective proxy hedging. The foreign currency reserves reached TWD 33 billion as of the end of first half.

Please look at Page 27 for the cash dividend income and regional breakdown of overseas fixed income. Cathay Life recognized dividend income of TWD 11.3 billion and TWD 17.6 billion in the first half and the first 7 months of 2022, respectively, higher than the same period of last year. Some cash dividend payment was delayed in the same period of last year as Annual General Meeting postponed due to local COVID outbreak last year.

In addition, corporate dividend payments are higher than last year. We expect the cash dividend income for this year will be higher than last year. Overseas fixed income investment Cathay Life allocated 49% in North America, 18% in Europe and the rest are in Asia Pacific and other countries.

Page 28 shows the book value and unrealized gain of financial assets. Both was done year-to-date, reflecting a sharp rise in bond yields and a decline in equity markets. However, if we base on IFRS 17 standard to mark-to-market both asset liability as the decline in liabilities exceeded that of assets. The book value increased between September 2021 to the end of this first half 2022.

Next, please turn to Page 32 to 34 for the performance of Cathay Century. Cathay Century's premium income grew 12% year-on-year to TWD 15 billion. Market share was 12%.

On Page 34, the gross combined ratio and retained combined ratio each increased due to the higher loss ratio resulting from the impact of pandemic insurance losses. Following our update on pandemic-related policies, the number of total effective COVID policy was down to 705,000 as of the end of July, showing meaningful decline comparing to 1.3 million as of the end of April, as we mentioned in our previous analyst meeting.

In the first half, the cumulative direct loss, including claims and reserve was about TWD 8 billion and the retention loss was TWD 5.2 billion based on 3.8 million confirmed cases. For the first 7 months, the cumulative delay loss was about TWD 11 billion and the retention loss was about TWD 8 billion based on 4.6 million confirmed cases. Going forward, the reinsuring portion will go down while the retention portion will increase.

However, the financial impact from pandemic policies will reduce as the policy gradually expire. We will continue to monitor the development in the pandemic and reflect the provisioning in the monthly results.

In regard to the special results in June, we have released TWD 1 billion special receive -- reserve from risk/pressure under liability to offset the impact of P&L and TWD 1.8 billion from catastrophic events under equity to supplement the capital position. We have also completed capital infusion of TWD 10 billion from the holding company in June. Cathay Century's RBC ratio increased to 450% from 284% as of the end of last year. So far, the RBC ratio is sufficient.

Lastly, we would like to provide information regarding the impact of recent interest rate hike on our book value. So some investment -- investors concerned about recent volatility of our book value. Please turn to Page 36, on the left-hand side, you can see that under the current IFRS for accounting standard, we need to mark-to-market FVOCI asset. However, currently, liabilities now mark-to-market until IFRS 17 is implemented in the future. At the current stage, the book value will be distorted because we only mark-to-market asset but not liabilities. This will lead to greater significant volatility in book value as interest rates fluctuate. This explains why the book value has shrunk rather significantly during recent rapid rate hike.

However, if we were to apply IFRS 17, such interest rate hike should be beneficial to book value. On the IFRS 17, the liability will also be evaluated based on market rates and accordingly by then we should have also reclassified the AC from amortized cost into FVOCI. Since both asset liability will be mark-to-market, they can partially offset each other and lead to much low fluctuation in book value compared with current situation.

On the IFRS scenario, the year-to-date interest rate movement should lead to mid-positive impact to book value as the reduction in liability should overweight the reduction in assets once we mark-to-market both in assets and liabilities. On the right-hand side of the slide, it shows the range of fluctuation in equity to asset ratio during last September to the end of this June. Under the existing accounting standard, the highest equity to asset ratio was 10.5% in last December, and the lowest equity to asset ratio was 4.6% in June. If we were to apply IFRS 17, the scenario suggests that the highest equity to asset ratio 7.7% in last December and this much then the lowest will be 5.2% in last September instead.

As you can see, under IFRS 17, in the rising rate environment for Taiwan dollar and U.S. dollars, the volatility in equity to asset ratio will be much more smooth as the volatility of assets were offset by net of liabilities. This is the end of the presentation. Now let's open to Q&A.

[Operator]

[Operator Instructions]

[Yajou Chang, executive]

And while we're waiting for questions, I will probably provide a quick summary of the Chinese section, which actually take quite a long time today. Today, in the Chinese section, questions surrounded with the impact from rising interest rates, including the impact to net interest margin of Cathay United Bank, the impact on investment return of Cathay Life and overall capital buffer.

And then also asked about update on hedging costs and update of the COVID-19 insurance policies, the progress. So for Cathay United Bank, the overall interest margin in second quarter already surpassed 1.3%. At beginning of the year, we have guided that we are looking for end of this year, the net interest margin could reach 1.3% that we already reached that in the second quarter. So LNS was asking whether we will be raising the net interest margin because the Central Bank will prefer banks can also reflect the rising rate into the deposit rate. So we are expecting when the deposits roll over part of the margin expansion will be voted back as your deposit costs also come up.

But overall, what we can say is, the 1.3% net interest margin has achieved earlier than expected. That will be more beneficial for 2022 net interest margin. And even if we are some quite stable through the rest of the year, it will be quite positive for 2023 net interest income. The overall fee income was supported by a strong credit cap fee despite there was some mild decline in wealth management fees. Overall overseas foreign currency loan -- the foreign currency loan has started to regain some momentum, and we saw some growth already compared with end of last year. For Cathay Life, the company continued to focus on protection-type policy as this has been a KPI for the top management for the sales force to maintain consuming CSM improvements.

Investment yield in first half hit second highest in the past 5 years, right below last year where they were quite high abnormal return. The recurring yield has started to increase in rate hike and especially for ForEx hedging costs has remained very low. Year-to-date, we still have ForEx -- instead of [indiscernible] . And recently, we have saw that net non-NDF hedging costs is already far below currency swap. The Cathay Life more dynamic hedging mechanism should start to perform good.

And we will also work hard to capture current pricing environment to log into our long-term bond assets, as you can see that international fund has grown year-to-date. The current liability duration is about 14, asset duration is about 12, and therefore, we benefit from the rate hike. And of course, in rising rate, because currently, the accounting structure and financial statements still are -- we do mark-to-market asset but not mark-to-market liability.

So if we were to look at based on IFRS 17, then actually the net worth, if we do the scenario calculation, net worth actually benefit rather than the sharp decline you see on the book value. And of course, for the rest of the year, we still have 4 months to go and therefore, can level. There were some questions related to the dividend payout capability. We think that we still have a few months to go, so we will take a close look at development.

Lastly, on P&C insurance. As of now, the outstanding insurance policy has already reduced down to 700,000 policies compared with the peak 1.3 million policies. Until the end of this year, we are expecting the 750,000 will continue to reduce to 650,000 policies and to about April next year, you were down to only 200,000, yes, 200,000 policies and then amortize to 0 in the following very few months.

So these are the highlight of the Q&A in the Chinese section, I hope these will be of use for you.

[Operator]

[Operator Instructions] And our first question is coming from Jemmy Huang of JPMorgan.

[Jemmy Huang, analyst]

I think just 2 questions from me. The first 1 is on the banking side, I think you do have the China subsidiaries. And given the recent concerns on the property related segment and also exposure. Is there any color you can provide in terms of any exposure for your Hong Kong branches and also China subsidiary to the China property developer names? And then any risk management mechanism that you have been taken this year.

Second question is around the Life Insurance. I think what we do see regulators trying to put stricter scrutiny that declare rates for the increased sensitive policies. Should we be concerned about the attractiveness of the insurance policies versus, let's say, the U.S. broader deposits in the future that policyholders can basically get a similar deposit rates from deposit, what's the angle for them to really buy these intra-sensitive policies if the declared rate or the returns become less attractive?

[Yajou Chang, executive]

Thank you, Jemmy and these 2 are very good questions. First one is related to our exposure in China, especially recent correction in real estate market and what is our risk management mechanism. And second is related to the rising rate they may make insurance savings tie policy that's attractive if the policy holder can also earn the return from the deposit rate. Then on online, would you like to take a...

[Shu-Fen Cheng, executive]

We get back to you later. I don't have that kind of data.I'm sorry.

[Yajou Chang, executive]

And Jemmy, I'd like to highlight. I remember back in the past 7 [ ideas, ] we have been taking rather cautious risk management in China. We -- mainly it is construction-related loan or real estate collateralized loan, we tend to focus on the 4 major cities only. It has been our policy for quite a long time. So Daniel will follow up with you on the details. If you want to talk about that?

[Grace Chen, executive]

Yes, I think -- first of all, I want to clarify that the regulator didn't restrict our declared interest rate. just that I think all the mechanics and they want to more prudent. And actually, right now, our segregate, this interest sensitive account, they're earning -- I mean, the bond portfolio yield actually is higher than what we declared.

So it means that in the future, we think still have the room to increase, but you need to more prudent comparison before. So, I don't think that there will be that attractive for -- in the future, even though the U.S. dollar savings rate is high. We still have room, but we need to be more prudent. And actually, the main reason they want that to competitive, this is the real reason that the regulator concerns. So -- but if the year we earn actually is higher, we still have room to declare the interest rate. So they will make these kind of products is more -- I don't like to use the attractive or not. You need to ,because they are not actually the same type.

If you buy in the interest rate sensitive actually, they are much, much longer, you need to put the money into this account. It's not either 1-year or 2-year savings lock. Actually, they still have to differentiate. But I don't think that we're less attractive. This is what I'm answering.

[Shu-Fen Cheng, executive]

First, more on price interest supply, if you can ensure good asset yield, you're in core decline can be matching to the investment yield.

[Yajou Chang, executive]

And Jemmy, for your first question on China real estate, I just have some numbers to provide you first, and we will follow out with more details. thankfully, our China subsidiary had 0 mortgage loan book, there's no mortgage on book. And also the loan to real estate direct lending is less than 1% of the loan book of the China subsidiary. I will -- Daniel will follow on more detail with you.

[Jemmy Huang, analyst]

Yes, that's very clear.

[Operator]

And next, we'll have Chung of Credit Suisse.

[Chung Hsu, analyst]

2 questions. One is on the bank. I think in an earlier session, I think you mentioned that the bank will not pursue a high foreign currency loan growth, will obviously put asset quality as the first consideration. So where are you parking your excess core deposit? If we look at the bank deposit growth, the foreign currency deposit growth business were very strong. Where are you parking this excess deposits?

And second question is on the Life side. Let's say, if in the next few months, we continue to see more capital market volatility and some pressure on equity to asset ratio. Is there any contingency measure Cathay Life can pitch before consider capital as -- is there a possibility of the valuing assets? Is there anything Cathay Life can do in case market or? And you don't have any sort of capital ready?

[Grace Chen, executive]

We do invest in some of the commercial -- financial papers like short-term financial paper or mid-term or short-term fixed income. And we do some currency swap.

[Chung Hsu, analyst]

Just in part of this -- more of this will reflect in net interest income, correct? Or is some of that will go into net interest income?

[Grace Chen, executive]

Sorry, it's not clear. So please repeat it again.

[Chung Hsu, analyst]

Based income will primarily be shown in your net interest income or a good part of it will be in noninterest income?

[Chung-Yi Teng, executive]

[Foreign Language] Nothing no.

[Yajou Chang, executive]

[Foreign Language]

[Chung-Yi Teng, executive]

Internally, we'll go for the net interest income.

[Chao-Ting Lin, executive]

So about the financial market is far volatility much more than current. Because I think at this moment, our RBC ratio is still quite high, about 330% above. So...

[Shu-Fen Cheng, executive]

Taking with the asset RBC ratio.

[Chao-Ting Lin, executive]

No. I think that if the interest rate going up, actually, it didn't affect RBC too much. Only the equity. I think we still have a lot of buffer. I think we can meet the more -- so it means that all if considering the RBC, we didn't need to capital raising, even though the volatility is more downtrend, much serious downtrend. We still have a lot of buffer comparing to the other major competitors in this market.

But the equity to asset ratio, it could be down to below 3% if the stock market is further going down quite significantly. But in Taiwan regulation, you need to twice touch this 3% threshold. So it means that maybe at the end of this year, and next second half, then you need to consider this kind of issue, but if you can explain some of them come from the interest rate then it will be fine. So I mean that we don't have this kind of issue for Cathay Life in the short term.

[Yajou Chang, executive]

On Page 36, you can see the capital adequacy ratio, capitalized adequacy after the market volatility at end of June, it still stands at 337%.

[Chung Hsu, analyst]

Okay. I'm mainly concerned about equity assets. As you mentioned, is still quite high. And it's -- just to clarify, 2 is semiannual? Like the number is reflecting.

[Chao-Ting Lin, executive]

This is semiannual number. If you touch the below 3%, you need to consider to explain to our regulator. So this is...

[Chung Hsu, analyst]

Two consecutive semiannual?

[Chung-Yi Teng, executive]

Yes, you mean 1 year.

[Operator]

[Operator Instructions] Then there appears to be no further questions at this point. And Ms. Cheng, can we close the conference call now?

[Shu-Fen Cheng, executive]

Okay. I think compared with 2017, I remember at the time, our Cathay Life portfolio and equity was almost 15%. So we have been keeping some more neutral position as of end of June, we have about 12.6%. And the resi interest rate and the market volatility is we just see some challenge, but they also give some buy on safe opportunity.

We're very glad that in the first quarter, we have trained position as we were expecting some volatility at this time. So hopefully, the current rate hike it does bring some costs on the short-term and the mark-to-market pressure but you also offer us a very good timing that we can lock into long term for fixed income at good yields. This will allow us to prepare for IFRS 17. So that's the final note for today's analyst meeting. Thank you very much for joining us today.

If you have further questions, please do contact IR team will stand by for you. Thank you.

[Operator]

Thank you, Ms. Cheng. And ladies and gentlemen, we thank you for your participation in Cathay Financial Holding Company's conference call. You may now disconnect. Goodbye. .