Industrial & Commercial Bank of China Ltd., the world’s most profitable lender, and its three largest local rivals are set to post the slowest earnings growth since 2010 as China’s economy falters and bad loans jump.
The four banks, among the world’s nine biggest by market value, will probably report combined second-quarter net income of 207 billion yuan ($34 billion), an increase of 10 percent from a year earlier, according to the median estimate of 11 analysts surveyed by Bloomberg News. Profit at the four largest U.S. banks climbed 35 percent to $20.2 billion.
The slower earnings growth may weigh on Chinese banking shares, already trading near record-low valuations on investors’ concern that an economy set to expand at the weakest pace in 23 years will curb loan demand and spark more defaults. Premier Li Keqiang triggered higher funding costs for banks this year with a crackdown on off-balance-sheet lending aimed at containing risks from an unprecedented credit boom.
“China’s banks have entered a downward spiral on profit growth,” said Rainy Yuan, a Shanghai-based analyst at Masterlink Securities Corp. “Loan margins are shrinking, interest income is slowing and authorities are clamping down on shadow banking while China’s economic slowdown has hindered asset expansion.”
ICBC, the largest Chinese lender by assets, will probably say on Aug. 29 that its net income climbed 9 percent to 67.4 billion yuan, allowing the Beijing-based company to retain its spot as the world’s most profitable bank, according to the analysts’ estimates.
China Construction Bank Corp., the nation’s second-largest, may post 6.3 percent growth in second-quarter net income on Aug. 25, the estimates showed. Agricultural Bank of China Ltd., ranked No. 3 by market value and assets, will probably report a 15 percent gain on Aug. 28. Bank of China Ltd., also scheduled to report earnings on Aug. 29, had an estimated 10.4 percent profit gain.
Bank of Communications Co., the fifth-largest, said on Aug. 21 net income rose 13 percent to $2.8 billion. It wrote off 4.8 billion yuan of soured debt in the first half, according to Citigroup Inc. analyst Simon Ho, helping limit the increase in bad loans to 3 percent in the second quarter.
Shares of ICBC and eight other Chinese banks that trade in Hong Kong have dropped by an average 10 percent this year, compared with the 2.8 percent decline in the city’s benchmark Hang Seng Index. ICBC is trading at 5.6 times its estimated 2013 earnings, up from a record low of 4.76 times on June 25, data compiled by Bloomberg show. Construction Bank trades at 5.5 times its forecast profit.
The yield on AAA-rated five-year commercial bank bonds has climbed 44 basis points to 5.23 percent since the end of March, according to an index from Chinabond, the government debt clearinghouse, signaling growing concern that defaults may rise and funding may remain tight.
The speculation has been exacerbated by the faltering growth in China, whose economy will probably expand 7.5 percent in 2013, according to the median estimate of economists surveyed by Bloomberg News last month. That would be the slowest pace since 1990.
The outlook may sour even more for banks over the next three years, according to Josh Klaczek, head of Asia financial services at JPMorgan Securities (Asia Pacific) Ltd. Profits may start to drop as asset quality deteriorates, revenue growth slows and funding costs rise, he said July 31. Credit growth is likely to slow to the mid-teens over the next 18 months, from 20 percent to 25 percent in recent years, he estimated.
Press officers at ICBC, Construction Bank, Bank of China and Agricultural Bank declined to comment on the prospects for their earnings.
A lending spree of the magnitude that tipped Asian nations into crisis in the late 1990s and preceded Japan’s lost decades is putting pressure on China’s leaders to rein in credit.
The nation has made an unprecedented $6.2 trillion of bank loans available to state-owned companies and local governments since the end of 2008. The result: debt is about 200 percent of China’s gross domestic product at a time when the economic slowdown is making it harder for borrowers to repay loans, Charlene Chu, a Beijing-based senior director of financial institutions at Fitch Ratings, said in April.
Premier Li has so far avoided economy-wide stimulus, instead using targeted policies such as tax breaks and support for small companies while curbing industrial overcapacity and reining in financial risks to aid an economic restructuring.
Key for lenders among those measures was the banking regulator’s decision in March to tighten rules on wealth management products, which yield higher rates than deposits for savers. The People’s Bank of China in June also temporarily refrained from providing short-term funds on the interbank market used to finance off-balance-sheet lending and other credit outside the banking system, known as shadow banking.
That drove money-market rates to a record, cutting off smaller banks’ borrowing. The central bank at that time also ordered lenders to improve management of their funding.
The credit crunch had an immediate impact on some banks’ operations. Shanghai-based BoCom reduced new lending and temporarily suspended short-term billing financing in June to maintain liquidity, Vice President Yu Yali told reporters Aug. 21.
The economic slowdown and a slump in export orders has already reduced companies’ ability to pay back debt. Nonperforming loans at Chinese banks rose for a seventh straight quarter in the three months ended June 30 to 539.5 billion yuan, extending the longest streak in at least nine years, according to the China Banking Regulatory Commission.
The bad debt ratio at the four largest lenders may have risen to 1.03 percent in the second quarter from 0.99 percent at the end of March, according to Mike Werner, a Hong Kong-based analyst at Sanford C. Bernstein & Co. He recommends clients buy ICBC, Construction Bank and Bank of China shares and remain neutral on Agricultural Bank holdings.
The actual level of soured credit may be underestimated because banks have moved loans off their balance sheets by selling them to trust companies or repackaging them as wealth-management products sold to savers, according to Fitch’s Chu. Local government financing vehicles, or LGFVs, have also avoided defaults in part by getting new financing to pay for maturing debt, Moody’s said in June.
“LGFVs and shadow banking are the biggest risk to China’s banking system,” Masterlink’s Yuan said. “One of the reasons why shadow banking can grow so fast is that banks are bypassing regulations to provide lending to LGFVs through these non-bank channels.”
Total local government debt may have risen 13 percent over two years to 12.1 trillion yuan as of December 2012, Moody’s estimated in June, citing a National Audit Office review. That adds to risks that the central government will be forced to bail out local authorities. Banks had advanced 9.7 trillion yuan of loans to local government financing vehicles as of June 30, according to the banking regulator.
“This is a black hole,” said Xie Jiyong, a Shanghai-based analyst at Capital Securities Corp., referring to the local-government debt. “The explicit and implicit government guarantee has covered up the real level of stress and a lot of shenanigans to avoid defaults are going on.”
That situation will probably continue for the foreseeable future, which will help the banks avoid reporting a surge in bad loans, he said. Managing their funding costs and lending rates may also help the largest lenders, Xie said.
“While the trend of a slowdown in profit growth is irreversible, big banks may still surprise the market,” Xie said.
— With assistance by Jun Luo