Karachi, December 09, 2021 (PPI-OT): IFRS-9 application on banks – PSX yield plays may attract interest

Implementation of IFRS 9 on banks scheduled for Jan-22; we highlight how this could alter banks equity investment strategy.

With a daily mark to market mechanism, gains/losses on FVTPL and dividends on the total portfolio will continue to route through the P and L. Gains/Losses on FVOCI will however reflect in the Statement of Comprehensive Income and not the P and L.

We hence believe banks will further skew portfolios towards yield plays to maximize P and L impact of their equity investments.

From a PSX perspective this could provide a potential trigger for yield plays and we highlight select stocks that could come in the limelight given their history of stable and sustainable dividend payouts.

Impact on bank’s equity investment book

Under the current practice, banks categorize equity investments into (1) Held-for-Trading (HFT) – gains/losses through P and L and (2) Available-for-Sale (AFS) – unrealized gains/losses through equity and realized though P and L. Held-to-Maturity (HTM) does not apply to equities. As per IFRS 9, listed equities will be classified as either Fair Value through Profit and Loss (FVTPL) or Fair Value through Other Comprehensive Income (FVOCI) – which will then be an irrevocable option.

With a daily mark to market mechanism, gains/losses on FVTPL and dividends on total portfolio will continue to route through the P and L. Gains/Losses on FVOCI will however reflect in Statement of Comprehensive Income and not the P and L.

Higher trading (FVTPL) allocation appetite might be limited

At first glance it seems that banks would want to maximize the allocation to FVTPL to ensure the total income from equity portfolio is reflected on the P and L Statement, as Statement of Comprehensive Income is still not a widely followed performance metric in local markets.

The strategy however comes with an inherent risk of increased volatility reflected on the bottom-line, as changes in the value of the portfolio will reflect through a daily mark to market practice. Coming off the back of a slow period at PSX where most banks had to book impairment provisions and capital losses, the appetite for a sizeable allocation to FVTPL in the existing scenario could be limited.

Hence preference towards yield plays in FVOCI likely

An alternate that could however emerge is that banks load up FVOCI portfolio with yield plays ensuring that income (by way of dividends) is channelled to P and L, and any stock price volatility is restricted to Comprehensive Income.

Banks currently too have a preference for dividend yield plays to a certain extent but we believe that the allocation will further materially skew post implementation of IFRS 9. We highlight, it is difficult to accurately calculate the existing dividend yield banks realize as reported dividend income also includes dividends from subsidiaries and other strategic investments. Nonetheless, crude estimates suggest that banks current portfolios generate a dividend yield of 3-5% whereas we believe the target in an IFRS-9 world would be to generate close to higher than double digit dividend yields on equity investments.

PSX yield plays could come in the limelight

From a PSX perspective this could provide a potential trigger for yield plays that traditionally do not perform well in the middle of a monetary tightening cycle. In this backdrop, we highlight some stocks we believe could come in the limelight given their history of stable and sustainable dividend payouts.