UPDATE 2-Bank of China posts strong Q3 profit after cutting bad loan coverage
* Q3 net profit 34.8 bln yuan, f'cast 32.7 bln yuan
* Q3 net interest margin 2.12 pct vs 2.1 pct in H1
* Q3 credit cost 0.27 pct vs 0.38 pct in 2011 Q3 (Recasts, adds comments from analysts)
HONG KONG, Oct 25 (Reuters) - Bank of China Ltd, the country's No.4 lender, posted its biggest quarterly profit gain in a year after cutting back on bad-loan provisions, prompting concerns that it may face a cash crunch if more borrowers default as the economy worsens.
Bank of China, which reported a 17 percent increase in third-quarter net profit, set aside the equivalent of 0.27 percent of its loan book. That was less than the 0.38 percent set aside in the year-ago quarter to cover bad loans.
Economists have warned that some of the loans handed out under China's massive stimulus package in 2008-2009 might turn bad after the world's second-largest economy slowed for the seventh consecutive quarter.
"Bank of China has traditionally been light on provisions," said Jim Antos, an analyst at Mizuho Securities in Hong Kong, who has an 'underperform' rating on the stock. "Someday, they'll have to play catch-up and pay for it."
The ratio is less than the average 0.5 percent in China, he said.
The lower provisions helped boost Bank of China's net profit to 34.76 billion yuan ($5.57 billion) in July-September from 29.8 billion yuan a year earlier. That beat the average estimate of 32.7 billion yuan in a Reuters poll of 12 analysts.
Profit also rose due to a wider net interest margin, which measures loan profitability, the bank said.
The third-quarter profit would have dropped by 2 billion yuan if the bank's impairment cost had met the industry average, said Alexander Lee, a Hong Kong-based analyst at DBS Vickers.
"If the view is that a crisis is impending, then the investor would be worried that a bank isn't putting aside enough," said Lee, who has a 'buy' rating on the stock. "If you see a soft landing, then it's good for investors because it means higher profits."
Bank of China said its non-performing loan ratio stood at 0.93 percent at the end of September, down from 0.94 percent at the end of June. But by value, non-performing loans rose to 64.1 billion yuan from 63.6 billion yuan at the end of June.
The bank's Hong Kong-listed shares are up about 10 percent so far this year, trailing the 14 percent rise on the benchmark Hang Seng index.
The stock rose 1 percent to close at HK$3.15 on Thursday, before the earnings announcement.
Net interest margin widened to 2.12 percent at the end of September from 2.1 percent at the end of June, said Bank of China, the first of the so-called "Big Four" banks to post earnings for the third quarter.
The wider interest margin indicates banks are benefiting from the central bank's decision in June to give lenders more flexibility in setting their own rates by raising the ceiling on deposit rates and lowering the floor on lending rates.
The policy shift initially fuelled concerns that interest margins would be hit.
Ratings agency Moody's said in October that the liberalised rates will cut banks' net profit by 28.5 billion yuan, or 3 percent of the industry's 2011 net income.
Industrial and Commercial Bank of China Ltd, Agricultural Bank of China Ltd and China Construction Bank Corp will report earnings through Oct. 30.
Bank of China's loan book expanded about 9 percent in January-September, pointing to rapid loan growth in the third quarter. In the first half, its loan book grew only 6.5 percent.
Still, overall earnings growth remains constrained by new regulations implemented by regulators that restrict the kind of fees banks can charge.
Fees and commission income, which had fuelled much of Bank of China's earnings growth in the past two years, remained largely flat in the third quarter at about 17 billion yuan. That compares with the 14 percent growth it recorded in 2011. ($1 = 6.2480 Chinese yuan) (Reporting by Kelvin Soh; Editing by Ryan Woo)