As a large-cap stock with market capitalization of HK$2.01T, China Construction Bank Corporation (SEHK:939) falls into the category of a major bank. As these large financial institutions revert back to health after the 2008 Financial Crisis, we are seeing an increase in market confidence in these “too-big-to-fail” banking stocks. After the crisis, a set of reforms called Basel III was created with the purpose of strengthening regulation, risk management and supervision in the banking sector. These reforms target banking regulations and intends to enhance financial institutions’ ability to absorb shocks resulting from economic stress which could expose banks to vulnerabilities. As a large bank in HK, 939 is exposed to strict regulation which has focused investor attention on the type and level of risks it is subjected to, and higher scrutiny on its risk-taking behaviour. Investors are viewing 939 with a more cautious lens and analysing these stocks using bank-specific metrics such as liquidity and leverage. Today we’re going to take a look at these metrics to gain more confidence investing in the stock. Check out our latest analysis for China Construction Bank
Is 939’s Leverage Level Appropriate?
A low level of leverage subjects a bank to less risk and enhances its ability to pay back its debtors. Leverage can be thought of as the amount of assets a bank owns relative to its shareholders’ funds. While financial companies will always have some leverage for a sufficient capital buffer, China Construction Bank’s leverage ratio of 12x is significantly below the appropriate ceiling of 20x. This means the bank exhibits very strong leverage management and is well-positioned to repay its debtors in the case of any adverse events since it has an appropriately high level of equity relative to the debt it has taken on to remain in business. If the bank needs to firm up its capital cushion, it has ample headroom to increase its debt level without deteriorating its financial position.
How Should We Measure 939’s Liquidity?
Due to its illiquid nature, loans are an important asset class we should learn more about. Generally, they should make up less than 70% of total assets, which is the case for China Construction Bank’s ratio at 56.84%. At this level of loan, the bank has preserved a sensible level between maintaining liquidity and generating interest income from the loan.
What is 939’s Liquidity Discrepancy?
Banks operate by lending out its customers’ deposits as loans and charge a higher interest rate. Loans are generally fixed term which means they cannot be readily realized, however, customer deposits are liabilities which must be repaid on-demand and in short notice. This mismatch between illiquid loans and liquid deposits poses a risk for the bank if unusual events occur and requires it to immediately repay its depositors. Relative to the prudent industry loan to deposit level of 90%, China Construction Bank’s ratio of over 71.02%is appropriately lower, which positions the bank cautiously in terms of liquidity as it has not disproportionately lent out its deposits and has retained an apt level of deposits.
China Construction Bank ticks all the boxes for operational prudency in terms of liquidity and leverage. These factors often sideline next to other fundamentals but are equally important to consider as part of the investment thesis. The bank’s favourable liquidity and leverage position exposes it to less risk when it comes to repaying financial obligations, in particular, in the case of an adverse macro event. Today, we’ve only explored one aspect of China Construction Bank. However, as a potential stock investment, there are many more fundamentals you need to consider. I’ve put together three key factors you should look at:
- Future Outlook: What are well-informed industry analysts predicting for 939’s future growth? Take a look at our free research report of analyst consensus for 939’s outlook.
- Valuation: What is 939 worth today? Has the future growth potential already been factored into the price? The intrinsic value infographic in our free research report helps visualize whether 939 is currently mispriced by the market.
- Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.
To help readers see pass the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned.