Aug. 28 (Bloomberg) -- Bank of China Ltd., the nation’s third-largest by assets, plans to slow credit growth in the second half of the year and improve loan quality after posting an unexpected profit gain in the second quarter.

Net income climbed 10 percent to 22.6 billion yuan ($3.3 billion), based on earnings figures the Beijing-based company reported yesterday. That exceeded the 19.51 billion yuan average estimate of five analysts compiled by Bloomberg.

Bank of China joined its three biggest publicly traded rivals in reporting better-than-estimated profits after state- owned lenders advanced a record amount of new loans in the first half to revive economic growth. Plans to rein in loan growth may relieve investors concerned that asset bubbles will form and bad loans will rise. Bank of China advanced more new credit than any other Chinese lender in the first half.

“BOC took full advantage of the loose monetary policy in the mainland to expand its market share,” Bank of America Corp.’s Merrill Lynch & Co. analysts led by Winnie Wu wrote in a note today. “BOC could offer one of the best earnings growth stories in 2009 and 2010.”

Shares in the company rose 1.6 percent to HK$3.87 at 10:06 a.m. in Hong Kong. The stock has gained 82 percent this year, outperforming China Construction Bank Corp., Industrial & Commercial Bank of China Ltd. and Bank of Communications Ltd.

Credit Growth Slows

Lending in the second half will be “much smaller,” with new credit in July and August dropping from the monthly averages of the first half, President Li Lihui told reporters yesterday.

Bank of China was the last of the country’s four biggest publicly traded lenders to report earnings.

The profit growth “confirms our belief that the worst is over for Chinese banks,” said Lu Xiaojiu, an analyst in Beijing at BOCOM International Ltd. who expects the lenders to post a 12 percent rise in full-year profit.

Chinese Premier Wen Jiabao in March set a new loan growth target of 5 trillion yuan in 2009 for the banking industry to revive economic growth that dropped to 6.1 percent in the first quarter, the slowest pace in almost a decade. New loans, which reached a record 7.73 trillion yuan as of July 31, may top 11 trillion yuan by the end of the year, BNP Paribas SA estimates.

Construction Bank this week warned of asset bubbles in capital markets after posting a 4.9 percent drop in net income in the first six months. ICBC, the world’s biggest bank by market value, last week said its profit in the period rose 2.9 percent on record lending.

Equities Rally

China’s regulators are changing tack after gross domestic product expanded 7.9 percent in the second quarter and the benchmark Shanghai Composite Index rallied 25 percent.

The China Banking Regulatory Commission last month required the nation’s lenders to raise reserves to 150 percent of non- performing loans by the end of this year, and on July 27 told banks to ensure loans intended for investment in fixed assets go to projects that support the real economy. Three days later, it announced plans to tighten rules on working capital loans.

The regulator also sent draft rule changes to banks on Aug. 19 requiring them to deduct all existing holdings of subordinated and hybrid debt from supplementary capital, people familiar with the matter said last week. As a result, banks may need to rein in lending to meet capital requirements.

Bank of China is considering plans to replenish capital and maintain the capital adequacy ratio at an “appropriate” level, Li said yesterday.

Net Interest Income

The lender posted an 8.3 percent drop in first-half net interest income, or the difference between revenue from lending and payments to depositors, as the profitability of loans worsened. Income from fee-based services, such as trade finance and distribution of insurance policies, gained 2.6 percent to 22.98 billion yuan.

Bank of China set aside 7 billion yuan to cover potential loan defaults in the first half, an increase of 7.8 percent from a year earlier. Its impaired-loan ratio narrowed to 1.83 percent from 2.29 percent three months earlier.

Impairment losses on Bank of China’s subprime-related investments and other securities holdings stood at $4.67 billion as of June 30, down from $4.84 billion three months earlier. The loss remains more than that suffered by all the other Chinese banks combined.

The bank still held $2.2 billion of subprime-mortgage investments, $1.05 billion of securities backed by so-called Alt-A home loans and $3.2 billion of other “non-agency” mortgage investments as of June 30.

For Related News and Information: Top financial stories: FTOP <GO> Stories on China Banks: TNI CHINA BNK <GO> Banking industry debt and equity monitor: BANK <GO> Relative value comparison: 3988 HK <Equity> RVC <GO> Earnings summary: 3988 HK <Equity> ERN <GO> China’s new loans: CNLNNEW <Index> HP <GO>

Last Updated: August 27, 2009 22:23 EDT