Lenders staring at bloated credit books

money-glitz | Winnie Lee and Avery Chen 10 Aug 2020

Traditional banks are in predicaments besides soaring bad loan provisions due to the coronavirus pandemic, they are struggling to improve their performance amid rising geopolitical tensions, governments' requests to support the economy, as well as the rising of virtual banks.

S&P Global Ratings estimates that the global banking credit losses will reach US$2.1 trillion (HK$16.38 trillion) by the end of next year, and loan losses will reach US$1.3 trillion this year, more than double that of last year. Analysts remind investors to avoid the banking sector.

The most concerning banks in the region must be HSBC (0005) and Standard Chartered (2888). The two British banking giants, which derived over half of the revenue from Asia, saw first-half results hard hit by mounting bad debt provisions.

Thanks to the coronavirus situation being under control in Hong Kong in the quarter ended June, their most profitable market, the two international banks suffered less than their peers in Wall Street. The six major US banks have each put aside more than US$10 billion on average respectively, for the second-quarter anticipated credit loss, compared to US$5 billion combined provision by HSBC and Standard Chartered.

But JP Morgan warns the net interest margin of HSBC's Hong Kong business fell deeper than other markets and may drop further given the declining Hong Kong Interbank Offered Rate in the third quarter. The third wave of the virus in the city would also dim its full-year outlook.

Dragged by the disappointing economies in the United States and Europe, international banks have been turning east for years. And the pandemic accelerates the trend, as China has become the first major economy returning to growth amid the virus.

So did HSBC, whose pretax profit has been falling since last year amid the Sino-US trade war. The Europe's largest bank by total assets has been downsizing its loss-making business in Europe and the US and expanded footprint in China. HSBC has cut more than a third of its 224 branches in the US and cut staff by 4,000 worldwide in the first half, in a plan to shed 35,000 jobs over the next three years. But it will hire 2,000 to 3,000 wealth planners in the next four years in China.

Meanwhile, Standard Chartered is to cut several hundred jobs around the world. But it will set up a Greater Bay Area Centre in Guangzhou this quarter, with a total investment of US$40 million, expecting to have more than 1,600 jobs by the end of 2023 there.

However, the escalation of tensions between China and the Western world has pushed the British banks into a sticky situation, especially for HSBC, raising investors concerns over the China expansion strategy.

HSBC and Standard Chartered backed the Hong Kong national security law, sparking criticisms from foreign politicians. On the other hand, state-owned media People's Daily accused HSBC of setting "traps" for Huawei Technologies, and the banking regulator approved the lender's application to close a Shenzhen branch which is close to Huawei's headquarters.

Kenny Ng Lai-yin, securities strategist from Everbright Sun Hung Kai, said the political risk hasn't been reflected in their valuations, as it's too difficult to measure, there are more uncertainties before the US presidential election in November.

And the suspension of dividend payouts ordered by the British government has disappointed loyal retail investors in Hong Kong, especially for HSBC, whose long-time investors own a third of the issued shares. The series of bad news sent HSBC's shares to as low as HK$32.8 last Friday, the lowest since the global financial tsunami of 2009. EU broker Alpha Value even lowered its target price to HK$26.11.

HSBC's subsidiary, Hang Seng Bank (0011) interim performance was better than expected but still fell 33 percent year on year in net profit.

Morgan Stanley says the decline of the Hong Kong economy was far worse than expectations, which may lead to an increase in non-performing loans and contraction of net interest margins. Meanwhile, Goldman Sachs says it may face risks such as a decline in wealth management business income and slowdown in Hong Kong's real estate growth. Hang Seng's expected credit losses surged 245 percent to HK$1.76 billion for the first six months. That compared with HK$2.78 billion in 2008. The NIM of HSB in the interim period was 1.88 percent, 0.29 percentage points lower than last year and also 0.11 percentage points worse than that in 2009.

Although the International Monetary Fund forecasts China will be the only major economy that will grow this year, the Chinese government also requires banks to support the economy by sacrificing 1.5 trillion yuan (HK$1.69 trillion) of profit.

Alicia Garcia-Herrero, chief economist for Asia Pacific at Natixis said the mainland banking industry is facing a dilemma. It is necessary for banks to improve asset quality and solvency and to shoulder the impact of the trade war and the epidemic.

Mainland default loans have long been criticized, not to mention the virus may aggravate the impairment losses for mainland banks.

Fitch Ratings expects provisioning pressure for mainland banks to rise over the rest of the year and into 2021, as official loan forbearance policies are likely to spread non-performing loan recognition over several quarters, and the impact of a weaker global demand will gradually translate on to lenders' credit books.

In the first quarter, China Construction Bank Corporation (0939) and Bank of China (3988) provision recorded double-digit percentage rise. The provision of Agricultural Bank of China (1288) and Industrial and Commercial Bank of China (1398) also recorded a single-digit increase.

In the first quarter, those banks' net profit grew not more than 4 percent. In the past five years, the four largest mainland banks only made not more than 6 percent annual growth in net profit.

Traditional banks are also facing competition from virtual banks, which offer attractive promotions. More consumers are willing to use virtual banks, from 20 percent in 2018 to 37 percent this year, according to a research conducted by Nielsen.



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