COVID-19 policy the key to sector re-rating…
…after 3Q22 earnings beat on lower impairment losses
3Q22 net profit growth accelerated on strong loan expansion and less impairment losses…
The net profit growth of banks in our coverage accelerated 3.3pp q-q on average to 9.4% y-y in 3Q22, from 6.1% y-y in 2Q22 (Fig. 2 ); while retail banks China Merchants Bank (CMB; 3968 HK, Buy), Postal Savings Bank of China (PSBC; 1658 HK, Buy) and Ping An Bank (PAB; 000001 CH, Buy) recorded ~14-26% y-y growth, big banks ICBC (1398 HK, Buy), China Construction Bank (CCB; 939 HK, Buy), and Agricultural Bank of China (ABC; 1288 HK, Buy) clocked ~6-9% y-y growth.
Loan growth accelerated with improving loan structure. Overall loan growth accelerated 0.3pp q-q to 12.7% y-y in 3Q22 from 12.4% y-y in 2Q22 (Fig. 8 ), driven by strong corporate loan growth, with an improving loan mix shifting towards medium- to long-term loans, as regulators urged banks to step up long-term lending to sectors such as infrastructure and real estate. In particular, big banks – ICBC, CCB, and ABC – saw loan growth pick up by 0.6pp q-q in 3Q22, while retail banks – CMB, PSBC and PAB –
saw loan growth decline by 1.0pp q-q due to subdued retail loan growth.
Impairment losses decreased on largely stable asset quality despite property sector risk clouding. The impairment losses of banks in our coverage decreased 19% yy on average in 3Q22, with the NPL ratio largely flat q-q or improving in y-y terms (Fig. 10 ), despite an uptick in the developer loan NPL ratio. NPL coverage ratios further enhanced and remained adequate at over 200%, particularly with CMB standing at 456% and PSBC at 404% (Fig. 11 ).
…despite that pre-provision operating profit (PPOP) growth slowed on NIM pressure, muted fee income growth and volatile trading gains
NIM pressure persisted on LPR cuts and rising deposit costs. Our covered banks reported a 10bp y-y decline in NIM in 9M22 (4bp q-q decline compared to 1H22) on average (Fig. 6 ), with ICBC, PSBC and ABC down 13-16bp, and PAB, CMB and CCB down 4-7bp y-y.
Muted fee income growth and volatile trading gains also added pressure on PPOP growth, as net fee income was down 3% y-y in 3Q22 on average for our covered banks, and other non-interest income (mainly trading gains) was down 44% y-y.
Chinese banks are attractive on stable earnings growth, high dividend yields and undemanding valuations, with COVID-19 policy the key to sector re-rating
We expect the banks in our coverage to deliver stable net profit growth of 7.1% y-y on average in FY22F (Fig. 12 ), with retail banks CMB, PSBC and PAB at double-digit y-y growth of 13%, 14% and 25%, respectively, while big banks ICBC, CCB, and ABC at single-digit y-y growth of 4%, 6% and 5%, respectively. It implies a low-teen ROE of 10- 12% for all the banks, except CMB at 17% in FY22F.
With average dividend yield as high as 8.8% and undemanding valuation trading at the historic low end of 0.42x P/B for FY23F (Fig. 1 ), we believe Chinese banks are attractive. The potential change in the current COVID-19 policy and sequential economic recovery could be the key to Chinese banks’ re-rating, in our view. CMB and PSBC will likely benefit more from such changes going forward, in our view, given their higher business exposures to retail businesses, which have suffered more from the lockdowns.