Deposits seen as key factor as Chinese banks’ results diverge

Big four and China Merchants Bank did well in the first quarter, while other mid-sized banks saw margins shrink

PUBLISHED : Sunday, 07 May, 2017, 4:14pm
UPDATED : Sunday, 07 May, 2017, 9:14pm

The performance of mainland Chinese banks diverged in the first quarter of this year, with some able to increase their net interest margins and boost interest income, while others struggled. The differentiating factor, analysts said, was the amount of deposits the banks had available to fund their activities.

The rates at which Chinese banks lend to each other have increased significantly this year. This has hurt banks that rely heavily on borrowing to fund their lending and investments, while benefiting those who are net lenders – those with plenty of deposits available.

“Different from previous results, the two most important indicators for banks to perform well in the first quarter of 2017 were deposit proportion and NPL [non-performing loan] formation,” said Chen Shujin, a banking analyst at Huatai Financial Holdings.

Last year all major Chinese banks saw their net interest margins shrink due to declines in the base interest rate and because of adjustments in the way value added tax (VAT) was calculated. This meant they had to rely on increases in fees and commissions to achieve the small profit growth they achieved.

Chinese banks feel pinch from falling interest income

In the first quarter however, while net interest margins of the sector as a whole continued to decline, some banks were able to buck the trend.

For Chinese banks, who traditionally generate a large amount of their revenues from lending, the net interest margin is a crucial number. It is the difference between interest a bank gains on its assets – loans and investments – and the interest it pays out on its liabilities – its deposits – as a proportion of its total assets.

China’s largest banks were among those that performed well, with the big four – ICBC, Agricultural Bank of China, China Construction Bank, and Bank of China – all managing to grow their net interest margins in the first quarter, according to calculations by Jefferies banking analyst Victor Wang.

China Construction Bank saw the greatest increase of 10 basis points.

China Merchants Bank, and Chongqing Rural Commercial Bank also managed to increase their net interest margins, according to calculations from Sophie Jiang, banking analyst at Nomura.

However, other Chinese banks didn’t fare so well.

The next few quarters will be even more challenging for week funding the impact from the newly released CBRC rules gradually plays out
Victor Wang, Jefferies banking analyst

Bank of Communications was hit the hardest with its net interest margin dropping 23 basis points in the first quarter according to Wang’s estimates, and 22 basis points by Jiang’s.

Citic Bank, China Everbright, Ping’an Bank and Minsheng Bank all also saw their net interest margins shrink, the analysts found.

Huatai’s Chen said there was a relationship between the amount of deposits banks had available, and their performance in this area.

“Net interest margin change was largely predicted by deposits as a percentage of interest-bearing liability – the higher the proportion, the better the net interest margin performance,” she said.

This was because of rising rates in the interbank market. These have increased steadily this year as the People’s Bank of China has tightened liquidity. Last Tuesday the overnight Shanghai interbank offered rate reached 2.8451 per cent, the highest reading in two years.

“Large banks and Chongqing Rural Commercial Bank benefited from rising interbank rates in the first quarter of 2017 as net lenders in the interbank market. For joint-stock banks [medium sized banks like Citic Bank and Minsheng] who are net borrowers in the interbank market, the key for better net interest margin quarter-on-quarter performance is to grow deposits to reduce interbank liabilities,” said Chen.

Tighter regulations are also starting to have an effect, as the China Banking Regulatory Commission (CBRC) is looking to clamp down on banks with less stable balance sheets.

The regulator now requires banks to fund two-thirds of their activities with stable deposits, as well as tightening their loan classifications, and to have better risk disclosure.

“Looking forward, the next few quarters will be even more challenging for weak funding banks [such as] Bank of Communications, Citic Bank, Minsheng Bank and China Everbright Bank as the impact from the newly released CBRC rules gradually plays out,” said Jefferies’ Wang in a note, adding that he had lowered his forecasts for the four banks.

“We expect the weak banks to deliver much slower balance sheet growth, further net interest margin compression and heightened credit cost,” he said.

The medium-sized banks’ efforts to increase their deposit base will also hit their net interest margins further, as they are forced to go to greater lengths to attract deposits.

“Weak banks will see further net interest margin compression due to likely aggressive deposit acquisition and heightened wholesale funding costs,” said Wang.