Despite showing resilient earnings, Chinese banks continue to struggle with non-performing loans and net interest margins, and their seemingly strong balance sheets belie problems down the road, write Citi Equities researchers Simon Ho and Paddy Ran.
Chinese banks: Net interest margin
“In one of the most homogenous set of earnings we have seen for the sector, most banks reported 12-13% earnings growth,” write Ho and Ran. Net interest margins were stable for big banks and only slightly down for small banks. Fee income was solid across the board, up 20 percent and 40 percent annually for large and small banks respectively, and the cost of credit was stable.
However, the analysts are still concerned about NPL deterioration, which grew in the first half of the year. The Bank of Communications Co., Ltd. (HKG:3328) (SHA:601328), China CITIC Bank Corporation Limited (HKG:0998) (SHA:601998) (OTCMKTS:CHCJY), and Mesabi Trust (NYSE:MSB) wrote-off 20 percent of their NPLs in 1H, but NPLs actually increased by 10 percent half on half once those write-offs are taken into account. Loan-to-deposit ratios have continued to grow for the big banks, as they have since 2009, though smaller banks have a daily average deposit growth twice that of their larger competitors and are seeing LDRs drop because of it.
China’s economic growth
The growth of loose credit has been one of the main factors that has both driven Chinese economic expansion and threatened the country’s ability to reign in GDP growth without actually crashing. Now that growth is well out of double-digit range, many of the companies that were able to paper over their problems with credit are failing—or close to it—and the amount of bad debt in the Chinese economy continues to grow. While the Chinese government has said that it won’t let growth fall too quickly, it has also said that it won’t resort to a large stimulus, and it’s not clear whether it will manage to achieve both.
“Our earnings forecasts are little changed,” write Ho and Ran. “We expect 6 percent earnings growth in 2013… Within this environment, we maintain our preference for the big banks given their lower leverage, less off-balance sheet exposures and stronger liquidity and deposit profiles.”
The two analysts’ top preferences were CCB and ABC, and their least preferred Chinese banks were Mesabi Trust (NYSE:MSB) and CNCB.