Fitch: Lower Profit Growth Adds to Chinese Banks' Capital Strain

Wed Mar 20, 2013 7:00pm EDT

Link to Fitch Ratings' Report: Chinese Banks: Mid-Tier Most Under PressureHONG KONG/LONDON, March 20 (Fitch) Lower earnings growth at Chinese banks is likely to weaken internal capital generation and put further pressure on capital in 2013-2014, Fitch Ratings says. Earnings growth of Chinese commercial banks slowed noticeably in 2012, with aggregate net profit rising 19% against an unsustainably high 36% in 2011 and 2010. Slowing earnings can be temporarily offset by cutting expenses and impairment charges, but longer term more capital will be needed to sustain aggressive asset growth and remain compliant with tougher regulatory buffers. As we expected, the main sources of earnings pressure were: rising funding costs as liquidity further weakened; rapid growth of non-loan credit, which tends to be lower yielding; and slower growth of net fees and commissions. We expect all these trends to intensify in 2013-2014, and be exacerbated by further moves toward interest rate liberalisation, which will lift already rising funding costs. Another critical factor clouding the 2013-2014 profit outlook is Chinese banks' low impairment charges, which have noticeably lagged behind overall credit growth. Loan loss reserves have been rising - reaching 2.8% of total commercial bank loans at end-2012 (2010: 2.5%) - but this fails to take into account the large and growing portion of new bank credit being extended outside loan portfolios, where reserves are typically nil. Shifting greater amounts of credit into such channels allows Chinese banks to temporarily maintain low impairment charges and preserve net income, but this comes at the expense of weaker future loss-absorption capacity. Even a modest turn in the credit cycle could result in much higher credit costs than in recent years. The aggregate net profit of commercial banks totalled USD197bn in 2012, compared with a total stock of bank-related credit of nearly USD14.5trn, highlighting how quickly rising credit costs could significantly erode profitability. Although Chinese banks' performance appears solid by global comparison, headline profit data can be misleading. Subtracting dividends and other charges, growth of retained earnings was below growth in assets and business volume, which were 18% and 20% in 2012, respectively (the latter figure our estimate). Unable to grow equity to a level commensurate with global peers, Chinese banks remain among the most thinly capitalised across all emerging markets. This raises the possibility of significant dividend cuts in 2013-2014 and the need for fresh capital injections. Thin capital, weakening profitability and liquidity, rising exposure to shadow banking, and continued aggressive growth are particular concerns for China's mid-tier banks, and were among the key drivers of our downgrades of the Viability Ratings of China CITIC Bank, Industrial Bank, and Ping An Bank in February 2013. Fitch is hosting a teleconference to discuss its latest ratings actions on Chinese, Japanese and Hong Kong banks at 4pm Hong Kong/Beijing time today. Participants are asked to register online in advance:Contact: Charlene Chu Senior Director Financial Institutions + 86 10 8517 2112 Fitch Ratings (Beijing) Limited 1903, 19/F, PICC Tower 2 Jianguomenwai Avenue Chaoyang District Beijing Jonathan Cornish Managing Director Financial Institutions +852 2263 9901 Cynthia Chan Senior Director Fitch Wire +44 20 3530 1655 Media Relations: Hannah Huntly, London, Tel: +44 20 3530 1153, Email: hannah.huntly@fitchratings.com; Wai Lun Wan, Hong Kong, Tel: +852 2263 9935, Email: wailun.wan@fitchratings.com. The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings. ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE.