Against the backdrop of a slowing economy and the liberalisation of interest rates, the profitability of the five large commercial banks in Hong Kong appears to have peaked, while asset quality risk is increasing, according to PwC's latest China Banking Newsletter.
PwC analysed the financial performance of the 18 Chinese listed banks which had reported their annual results by 18 April. Net profits grew by an average of 1.91% across the 18 banks, down from 7.39% in 2014.
This significant slowdown masks a wide range of performance, determined by the size and scope of the banks. Net profit growth at the five large commercial banks slowed to 0.69% (2014: 6.52%).
Growth at the six joint-stock commercial banks also slowed significantly to 4.21%, down from 9.74% in 2014. However, net profit growth at the seven city commercial banks actually increased, up 26.60%, against 19.76% the previous year.
Overall, net interest margin narrowed by 0.15 percentage points to 2.46%.
“Due to the economic slowdown, listed banks have increased provisions. This has restricted the growth in their net profit,” said Jimmy Leung, PwC China Banking and Capital Markets Leader. “The liberalisation of interest rates – with the impact of rate cuts – has led to slower growth in interest income, which also curbed profit growth.”
Growth in bad loans
At the end of 2015, the total assets of the 18 listed banks stood at RMB 111.08 trillion – a year-on-year increase of 12.12%. But credit risk also grew – NPLs were up 48.61% to reach RMB 948.28 billion. The average NPL ratio was 1.65%, up from 1.22% a year earlier.
The banks stepped up their efforts to address this, writing off or transferring RMB 386.1 billion in NPLs, up 67% from 2014.
“Along with NPLs we are seeing significant growth in overdue loans,” said James Tam, Banking and Capital Markets Partner, PwC Hong Kong. “Both the NPL balance and ratio of these grew significantly, so we can expect many of them could be migrated to NPLs in time.”
Overdue loans increased 45.67% from the end of 2014, while the ratio increased 0.67 percentage points to 2.70%.
Bankruptcy or liquidation?
The China Banking Newsletter also looks at the progress being made in supply-side structural reform. Businesses burdened with overcapacity are likely to face bankruptcy or liquidation if they aren’t merged or taken over.
Commercial banks can no longer rely on the traditional ways to dispose of non-performing assets (liquidation, write-offs and transfers). Securitisation of non-performing assets is one possible way for them to improve their asset quality in an efficient and cost-effective way. However, securitisation still faces a few obstacles, such as valuation, pricing and investment demand for the products, as well as policy and legal considerations.
The proposed Debt For Equity Conversions that have been recently reported are also assessed in the Newsletter. The PwC report argues that such measures have to be based on a strong, market-driven rationale and that the equity holdings have to make strategic sense for the banks concerned.
“The pressure on profitability in the banking sector is going to increase. Profits have peaked and may even start to shrink,” says Leung. “Strengthening asset quality will be a long-term challenge. But elsewhere, developments such as Fintech offer some promise to the sector."