Top Chinese Banks Post Biggest Bad-Loan Surge Since 2010

Photographer: Tomohiro Ohsumi/Bloomberg

A pedestrian walks past a Bank of China Ltd. branch in Beijing. Bank of China, the fourth-biggest, reported quarterly net income of 39.5 billion yuan, matching analyst forecasts. Close

A pedestrian walks past a Bank of China Ltd. branch in Beijing. Bank of China, the... Read More

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Photographer: Tomohiro Ohsumi/Bloomberg

A pedestrian walks past a Bank of China Ltd. branch in Beijing. Bank of China, the fourth-biggest, reported quarterly net income of 39.5 billion yuan, matching analyst forecasts.

China’s top four banks posted their biggest increase in soured loans since at least 2010 as a five-year credit spree left companies with excess manufacturing capacity and slower profit growth amid a cooling economy.

Bad debts at Industrial & Commercial Bank of China Ltd. (1398), China Construction Bank Corp. (939), Agricultural Bank of China Ltd. (601288) and Bank of China Ltd. (3988) rose 3.5 percent in the third quarter to a combined 329.4 billion yuan ($54 billion), data compiled from earnings reports shows. Profit rose to 209 billion yuan while their average bad-loan ratio widened to 1.02 percent.

The rise in defaults adds to concern bank profitability may slip as policy makers trim output at cement plants to paper makers that have gorged on credit since 2008, while urging lenders to build buffers to cover loan losses. China’s biggest banks are trading near record-low valuations as investors brace for a surge in defaults, and ICBC fell in Hong Kong today.

“Against the backdrop of a slowing economy and overcapacity problems in some industries, some loans are gradually going bad,” said May Yan, a Hong Kong-based analyst at Barclays Plc. “We will see more bad loans forming because of the legacy of over expansion.”

Photographer: Nelson Ching/Bloomberg

Agricultural Bank of China Ltd., the third-largest lender, posted a 15 percent increase in profit for the period to 45.6 billion yuan, in line with the 44.1 billion-yuan average estimate. Close

Agricultural Bank of China Ltd., the third-largest lender, posted a 15 percent increase... Read More

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Photographer: Nelson Ching/Bloomberg

Agricultural Bank of China Ltd., the third-largest lender, posted a 15 percent increase in profit for the period to 45.6 billion yuan, in line with the 44.1 billion-yuan average estimate.

The top four banks have set aside an average 279 percent of the value of their soured debt as provisions, up from 272 percent at the end of June and ahead of a regulatory requirement of 150 percent. China also requires banks to set aside 2.5 percent of total credit as reserves.

Record Profit

While the lenders’ 10.8 percent profit growth in the three months ended in September was the slowest pace in seven quarters, the state-run banks are headed for at least their eighth straight year of record earnings, data compiled by Bloomberg show.

ICBC fell 0.7 percent to close at HK$5.43, after dropping as much as 1.8 percent, while Bank of China gained 0.3 percent and Agricultural Bank (1288) added 1.1 percent, the day after the three reported earnings. The benchmark Hang Seng Index fell 0.4 percent.

China in July ordered more than 1,400 companies in 19 industries to cut excess capacity after Premier Li Keqiang pledged to boost efficiency. Rising interest payments are driving some debtors to default on loans taken out during an unprecedented $6.6 trillion credit increase from late 2008 through September.

Slower Growth

ICBC, the world’s most profitable lender, reported yesterday its weakest profit gain in more than four years as lending and fee income growth moderated. Net income rose 7.7 percent to 67.2 billion yuan in the third quarter, missing the 69.4 billion-yuan average estimate of 10 analysts surveyed by Bloomberg News.

Agricultural Bank, the third-largest lender, posted a 15 percent increase in profit for the period to 45.6 billion yuan, in line with the 44.1 billion-yuan average estimate. Bank of China, the fourth-biggest, reported quarterly net income of 39.5 billion yuan, while Construction Bank said Oct. 28 its profit rose 9.4 percent to 56.8 billion yuan.

“There are intensifying profitability pressures for the sector on a quarter-on-quarter basis” amid slower lending growth, margin pressure and higher bad debt, said Ismael Pili, head of Asia bank research at Macquarie Group Ltd. in Hong Kong. “Bigger banks such as ICBC and CCB will fare better, with the smaller banks potentially having a harder time.”

Bond Yields

Shares of the four banks are trading at an average 0.93 times their estimated book value for 2014, data compiled by Bloomberg show.

The yield on AAA-rated five-year commercial bank bonds has climbed 86 basis points since the end of June to 5.61 percent, according to an index from Chinabond, the government debt clearinghouse, signaling growing concern that defaults may rise.

China’s top leaders will meet next week to map out economic policies. Gross domestic product growth may slow to 7.1 percent in 2014 from 7.6 percent this year as the government focuses on rebalancing the economy and implementing reforms, Barclays Plc estimated on Oct. 18.

“There’s a lot of uncertainty on where policy will be heading next year,” said Liu Jun, a Wuhan-based analyst at Changjiang Securities who has a “hold” recommendation on the industry. “That will reduce the appeal of banking shares even though their earnings growth is quite stable and valuations are low.”

Chinese banks advanced 2.2 trillion yuan of new loans in the third quarter this year, 18 percent higher than a year earlier, according to data from the central bank. Nonperforming loans rose for seven straight quarters through June, data from the banking regulator showed.

‘Overwhelm Borrowers’

Interest owed by borrowers has risen to 12.5 percent of Chinese gross domestic product in 2013 from 7 percent in 2008, Fitch Ratings estimated in a report last month. The figure may rise to as high as 22 percent by the end of 2017, which could “ultimately overwhelm borrowers,” the agency said.

The nation’s debt-to-GDP ratio, excluding central government and financial debt, widened to 207 percent at the end of the third quarter from 190 percent a year earlier as credit growth continued to outpace productivity gains, Mike Werner, a Hong Kong-based analyst at Sanford C. Bernstein, said this month.

To contact Bloomberg News staff for this story: Jun Luo in Shanghai at jluo6@bloomberg.net; Aipeng Soo in Beijing at asoo4@bloomberg.net; Stephanie Tong in Hong Kong at stong17@bloomberg.net

To contact the editor responsible for this story: Chitra Somayaji at csomayaji@bloomberg.net

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