Chinese banks' profit decline to worsen in H2: Fitch Ratings

Hong Kong/Shanghai, September 4 : The fall in Chinese banks' profits will accelerate in the second half of current calendar year as authorities target to more than double the amount of non-performing loans (NPLs) resolved compared with the first half of the year, Fitch Ratings has said.
The banks reported their aggregate net profit fell 9.4 per cent year-on-year in H1 to one trillion Chinese yuan renminbi (CNY). All Fitch-rated Chinese commercial banks reported net profit declines due to higher expected credit losses and lower net interest margins.
In its rated portfolio, China Merchants Bank Co Ltd stood out with the smallest net profit decline of 1.5 per cent. Chinese banks' aggregate net profit in Q2 was also sharply lower quarter-on-quarter even though China's real GDP rose by 3.2 per cent over the same period (from a 6.8 per cent contraction in Q1), following government directives in June for banks to forgo returns to support the economy.
The China Banking and Insurance Regulatory Commission aims for full-year NPL resolution of CNY 3.4 trillion in 2020 of which CNY 1.1 trillion was completed in the first half. This compares with the CNY 2.3 trillion of NPLs resolved in 2019.
Active NPL resolution has allowed the banks to maintain their reported allowance coverage ratios (182 per cent for the sector at H1-end) despite the impact from the coronavirus pandemic this year. However, this is at the expense of weaker reported profitability as banks saw varying levels of increases in provisioning.
Most banks suggest the deterioration in consumer NPLs peaked in Q2 and has moderated since June, said Fitch.
These trends are consistent with China's official manufacturing Purchasing Manager's Index (PMI) which came in at 51 for August and has remained above 50 since March. The banks have guided for higher NPLs (official sector NPL ratio was 1.94 per cent at H1-end) for the rest of the year as uncertainties remain amid the global pandemic and ongoing US-China tensions.
Core capital ratios generally fell during H1 as banks continued to grow their risk-weighted-assets. Loans were up 8 per cent in H1 compared with the previous six months in line with Fitch expectation for full-year growth of 14 per cent as loans typically increase faster in the first half for Chinese banks.
Fitch said it is still not yet clear when banks will be designated as domestic systemically important banks and would have to meet the regulatory minimum of 8.5 per cent core capital ratio although many mid-sized banks' ratios were approaching this level by H1-end.
"Despite the challenging outlook on profitability, we believe the Chinese banks still aim to pay dividends for 2020 which could limit their pace of growth," said Fitch.
Chinese banks' top-line growth is also challenged by the compression of their net interest margins. While most banks are nearing the completion of their transition to using the loan prime rate as their benchmark, broader government directives to reduce borrowing costs will continue to suppress asset yields for banks, and fierce deposit competition will push up funding costs.
"Overall, we expect Fitch-rated banks to maintain similar risk appetites but believe the pressures on their profitability and capitalisation will persist for the rest of 2020 and in 2021."
The outlook on Fitch's operating environment for Chinese banks is stable, reflecting our view that the bb-plus mid-point adequately captures systemic risk for the rated banks.
"We expect regulators to remain committed to containing financial-sector risks, despite a one-off increase in system leverage to around 265 per cent of GDP this year," said Fitch.
"Continued NPL recognition and resolution should help prevent a further build-up of credit risks in the system, and we view these factors as having a more lasting impact on our assessment of China's operating environment than near-term profitability pressures."