Chongqing banks face pressure on finances as fiscal reform plan gets underway

PUBLISHED : Tuesday, 22 March, 2016, 3:55pm
UPDATED : Tuesday, 22 March, 2016, 3:55pm

Local banks in the southwestern municipality of Chongqing are facing heavy pressure on their finances as a result of having to buy some 150 billion yuan (HK$179 billion) of local government bonds as part of an ambitious fiscal reform programme.

The programme, introduced by the central government last year, aims to reduce local government debt by swapping loans from banks for bonds, and came amid concern over the risk to the economy of the piles of debt accumulated by local governments in recent years. Chongqing is one of the first areas in the country to actively take part in the reform plan.

However, for the banks in the municipality that have been asked to take part, including Chongqing Rural Commercial Bank (CRCB), the programme will translate into an investment requirement of about 18 billion yuan each this year.

That would come just as many are already facing earnings pressure from non-performing loans due to a slowdown in trade in Chongqing amid the overall slackening of the economy that has hit the companies they lend to, as well as margin compression and capital adequacy issues.

To make matters worse, the bonds offer a lower return than the traditional loans.

“The debt swap is done with the aim of helping governments to reduce interest burdens,” said Marco Yau, a banking analyst at CLSA in Hong Kong. “While it benefits the municipal governments, it does not offer distinct yield benefits for the banks involved. Everyone’s earnings have been in decline. The move will further compress their interest margins, making their earnings further deteriorate.”

Others noted that the programme could have the opposite effect than intended.

“There is a question on how much of the bonds goes into swapping the banks out of the loans, and how much are actually new investments,” said Sophie Jiang, head of Hong Kong and China banks equity research at Nomura.

“To purely buy up the debt may increase the banks’ exposure to the local governments rather than helping the banks to see capital relief.”

For CRCB, a 60 year-old former agricultural credit cooperative, participation in the programme comes just as its board has approved plans to apply for a 10 billion yuan quota to issue preferential shares and another four billion yuan for debt issue to keep its balance sheet afloat.

The bank’s non-performing loans have more than doubled from 0.43 per cent of total loans in 2014 to 0.9 per cent last year, the most recent data shows. And without the high-yielding loans from the traditional local government business, as well as pressure from central government interest-rate reform, CRCB’s lending margins have dipped from 3.37 per cent in 2014 to 3.2 per cent. Its

core tier-one capital adequacy ratio – a measure of the bank’s ability to absorb losses – is now 9.08 per cent, barely above the required 8.5 per cent and well below the average 13.81 per cent level at the nation’s big five banks.

CLSA’s Yau noted that the yield offered by the local government bonds, 10 basis points above the 2.58 per cent offered by central government bonds compares unfavourably with the 6.63 per cent average return at the end of last year on CRCB’s loan to the local government.

But CRCB’s chairman expressed confidence in its ability to ride out any difficulties.

“The industry is impacted by the economic adjustments,” Liu Jianzhong said.

“There are many other proposals like the debt-for-equity swap programme and plans for mergers and acquisitions in industries with excess capacity to help resolve NPL issues, we are aware of them. But the key is how banks manage and dispose of their own risks,” he said.

“Our risks are under control. We aim to self-manage our NPL portfolio to recover from bad debt.”

The bank invested 6.6 billion yuan in Chongqing government debt last year. Of this, 1 billion yuan was swapped for loans to government financing platforms, according to Cui Xiong, deputy manager of CRCB’s treasury operations. In 2016, Cui said the bank will likely invest up to the 12 per cent government target.

Bank of Chongqing, which is part-owned by Hong Kong’s Dah Sing Financial Group and which has been asked to join the reform initiative, is also facing financial pressure. It recently raised HK$3.2 billion in an H-share rights issue, helping to bolster its core tier-one capital adequacy level to 10.49 per cent. But its non-performing loans rose from 0.39 per cent of total lending in 2013 to 0.97 per cent in 2015.

“We have made subscriptions to the issues that are released. The returns from these bonds are very low. They pay about 10 basis points above central government bond returns,” said Li Yingjun, general manager in charge of asset and liability management at Bank of Chongqing.

Li said the bank has not been given a schedule from the government to help complete the swap.

“It depends on the risk level in the government asset pool. The pricing changes every time. The timing depends on the market condition at the point of the issuance.”

The bank has been bolstering its activities in the interbank market, such as lending to other brokerages and financial institutions, and pushing sales of wealth management products to deal with the slowdown in margins.