China's banks
The numbers say Chinese banks are doing brilliantly. The market is sceptical.
IN THE war between China bulls and bears, the country’s banks represent an important battleground. The banks are China’s most valuable listed firms, accounting for more than a fifth of the entire Hong Kong stockmarket. Their broader significance to China’s economy is enormous: they provide the bulk of the country’s capital, and their results should, theoretically at least, reflect how well its businesses are performing.
Based on their expected results there is reason only to applaud. Earnings rose by 20-50% in 2010 and analysts are predicting particularly good first-quarter numbers. Profits are growing by more than 20% annually, estimates May Yan of Barclays Capital. Loan losses are vanishingly small. Lending margins are expanding. The potential for fee income is all but untapped. Demand for credit is insatiable. Alternative sources of capital are limited.
Yet the market has its doubts. Though their history as public companies is short, Chinese banks have typically traded at 2.3 times their book value and 12-13 times future earnings. At the moment, however, they trade at 1.5 times book value and eight times expected earnings, levels that ordinarily mark out firms that are vaguely troubled or face brutal competition.
There are many possible explanations for these low prices. Perhaps the best is credit risk. Losses over the past year ran at 40-50 basis points of their loan books for the large banks, a rate that is minuscule for even the most buoyant economy. Ms Yan believes losses will bump up in the coming year, but remain between 50 and 60 basis points, still extraordinarily low.
The bears concede that losses may stay that way for a while, but argue that a huge, government-ordered expansion of bank credit over the past two years in response to the crisis must eventually produce vast losses. The only question is when.
There is particular concern about loans made to entities tied to local governments and to property investors, some of which have been passed along to affiliated trust companies. Argument and counter-argument abound. No one doubts that there are lots of empty flats, but equally no one doubts that there is lots of demand. Plenty of those flats were bought with credit but loan-to-value ratios were, many bankers claim, conservative, while standards are nothing like as loose as in America. One credit officer in a Chinese bank says that far more important than any aggregate statistic is lenders’ intimate knowledge of the thick, extraordinarily rich, slice of buyers who can weather a downturn.
Based on their expected results there is reason only to applaud. Earnings rose by 20-50% in 2010 and analysts are predicting particularly good first-quarter numbers. Profits are growing by more than 20% annually, estimates May Yan of Barclays Capital. Loan losses are vanishingly small. Lending margins are expanding. The potential for fee income is all but untapped. Demand for credit is insatiable. Alternative sources of capital are limited.
Yet the market has its doubts. Though their history as public companies is short, Chinese banks have typically traded at 2.3 times their book value and 12-13 times future earnings. At the moment, however, they trade at 1.5 times book value and eight times expected earnings, levels that ordinarily mark out firms that are vaguely troubled or face brutal competition.
There are many possible explanations for these low prices. Perhaps the best is credit risk. Losses over the past year ran at 40-50 basis points of their loan books for the large banks, a rate that is minuscule for even the most buoyant economy. Ms Yan believes losses will bump up in the coming year, but remain between 50 and 60 basis points, still extraordinarily low.
The bears concede that losses may stay that way for a while, but argue that a huge, government-ordered expansion of bank credit over the past two years in response to the crisis must eventually produce vast losses. The only question is when.
There is particular concern about loans made to entities tied to local governments and to property investors, some of which have been passed along to affiliated trust companies. Argument and counter-argument abound. No one doubts that there are lots of empty flats, but equally no one doubts that there is lots of demand. Plenty of those flats were bought with credit but loan-to-value ratios were, many bankers claim, conservative, while standards are nothing like as loose as in America. One credit officer in a Chinese bank says that far more important than any aggregate statistic is lenders’ intimate knowledge of the thick, extraordinarily rich, slice of buyers who can weather a downturn.
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