Running to HSBC Makes Shares European Bank Winner

By Jon Menon

Oct. 6 (Bloomberg) -- HSBC Holdings Plc Chairman Stephen Green kept to his schedule the night Europe fell into the worst banking crisis since the Great Depression.

On Sunday, Sept. 28, as governments in London and Brussels were scrambling to find anyone willing to assist the bailouts of U.K. mortgage lender Bradford & Bingley Plc and Belgium's biggest financial-services firm, Fortis, Green was far away in Singapore. He went to the races that night and watched Fernando Alonso win the Grand Prix.

It's not that London-based HSBC, Europe's largest bank by market value, is immune to the credit crisis. It became the world's No. 1 subprime lender after purchasing Household International in the U.S. in 2003, and has set aside about $38 billion for bad loans since the start of 2006. What separates HSBC from the pack is its ability to hoard cash. It is one of the only European banks that takes in more in customer deposits than it loans out. With one of the highest capital ratios in Europe, HSBC probably will outperform peers as long as the crisis continues.

``You only need another shock, and there will be safe-haven buying of HSBC, with people rushing to the stock they think will weather the storm the best,'' said Julian Chillingworth, chief investment officer at London-based Rathbone Brothers, which manages $21 billion, including HSBC shares. ``HSBC will be the main stake for a lot of people.''

Better Than Gold

HSBC is up 10 percent this year in London trading, the only gainer among Europe's 69 biggest banks, which are down an average 35 percent this year. Throw in an annual dividend yield of 5.1 percent, and it has done better than U.S. Treasuries, even gold.

The bank's Hong Kong-quoted shares slipped 1.6 percent to HK$121.20 this morning as the city's Hang Seng Index fell 3.4 percent.

``There's no need to change what they have been doing all year,'' said James Hutson, an analyst at Keefe, Bruyette & Woods Ltd. in London who has a ``market perform'' rating on the stock. ``It has served them well.''

HSBC operates in 85 countries and got more than three- quarters of its profit from emerging markets in Asia and Latin America in the first half of the year. Its presence in these faster-growth markets has mitigated losses in the U.S., where it was one of the first banks to take provisions on subprime-backed loans. HSBC's loan impairments will peak this year at about $14 billion, before declining to about $10 billion in 2009, estimates KBW's Hutson.

More Deposits

The bank has a loan-to-deposit ratio of 90 percent, lending 90 cents for every dollar of deposits it receives. That compares with 129 percent for Royal Bank of Scotland Group Plc, the U.K.'s second-largest bank, and 124 percent for Barclays Plc. HSBC's Tier 1 capital ratio, a measure of financial strength, is 8.8 percent, compared with 8.6 percent at RBS and 7.9 percent at Barclays.

Deposits from consumers increased by $24.2 billion, or 5 percent in the first half of the year as people moved their assets from investment products into the largest banks amid the market turmoil, HSBC said in August.

``Anecdotally, I would suspect HSBC has benefited from a perception of increased safety,'' said Ian Gordon, a London-based analyst at Exane BNP Paribas.

The bank, founded as Hongkong and Shanghai Bank Corp. in 1865, has avoided buying distressed banks this year. It would only consider acquisitions which fit into its strategy of expansion in emerging markets and won't buy assets just because they are cheap, Green, 59, said in August. HSBC is ``highly unlikely'' to buy an investment bank, spokesman Patrick McGuinness said in an interview.

`Be Vigilant'

Nor does the bank have an appetite for assets it considers overpriced. Sandy Flockhart, CEO of HSBC's Asian unit since July 2007, abandoned a $6 billion purchase of Korea Exchange Bank on Sept. 19 after failing to persuade owner Lone Star Funds, a Dallas-based investment firm, that the global crisis justified a price cut.

Flockhart, 56, who has worked at HSBC for 34 years and is a collector of classic cars, said in a Sept. 10 interview that the bank has ``got to be vigilant'' about worsening credit quality.

``They are not going to do anything silly,'' said Chillingworth of Rathbone Brothers. ``They are not going to surprise the market, which these days, is a good thing.''

Green's challenge is to maintain HSBC's edge. Intervention by central banks and governments in deposit and wholesale-funding markets ``may start to undermine its funding advantage,'' KBW's Hutson wrote in a note to investors on Oct. 1. Investors who see an end to the credit crisis have already started to move on. Analysts in the past two months had six ``buy'' ratings on the stock, seven ``holds'' and eight ``sells,'' according to data compiled by Bloomberg.

Shedding Jobs

``People are overpricing safety and security, and HSBC looks expensive,'' said Alan Beaney, head of investments at Principal Investment Management in Sevenoaks, England, who has been selling the shares. ``HSBC can still lose money,'' he said. ``The slowdown that is happening will affect the Far East.''

In the U.S., HSBC has reduced lending, sold assets and replaced managers to control bad loans. The bank abandoned plans to move its U.S. headquarters to lower Manhattan after bids for its current office on Fifth Avenue came in 30 percent lower than the $600 million it wanted for the property, the New York Times reported Oct. 1.

The bank has also shed 1,100 jobs in its global banking and markets division, after the unit's pretax profit fell 35 percent to $2.7 billion in the first half from a year earlier.

`Strategically Significant'

Green said in August that HSBC's credit-card business and consumer-lending operation in the U.S. are ``strategically significant'' to the company. The bank has rejected pressure to sell the U.S. operation from New York-based activist investor Knight Vinke Asset Management LLC, which placed advertisements in U.K. newspapers to promote its campaign and questioned management at HSBC's annual shareholder meeting in May. Green at the time said such a move would be ``irresponsible and unthinkable.''

``The upside for HSBC lies in restructuring in the U.S. and increasing its balance sheet in Asia,'' said Glen Suarez, chief investment officer at Knight Vinke. The stock has ``tremendous'' potential, he added.

To contact the reporter on this story: Jon Menon in London at jmenon1@bloomberg.net