Financial Metrics For Bank of China Limited (HKG:3988)
Bank of China Limited (HKG:3988) is a large-cap stock operating in the financial services sector with a market cap of HK$1.18t. As major financial institutions return to health after the Global Financial Crisis, we are seeing an increase in market confidence, and understanding of, 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. Operating in HKD, 3988 is held to strict regulation which focus investor attention to the type and level of risk it takes on. We should we cautious when it comes to investing in financial stocks due to the various risks large banks tend to face. Today we will analyse some bank-specific metrics and take a closer look at leverage and liquidity.
View our latest analysis for Bank of China
Is 3988’s Leverage Level Appropriate?
Banks with low leverage are better positioned to weather adverse headwinds as they have less debt to pay off. A bank’s leverage may be thought of as the level of assets it owns compared to its own shareholders’ equity. Financial institutions are required to have a certain level of buffer to meet capital adequacy levels. Bank of China’s leverage level of 12.6x is very safe and substantially below the maximum limit of 20x. This means the bank has a sensibly high level of equity compared to the level of debt it has taken on to maintain operations which places it in a strong position to pay back its debt in unforeseen circumstances. If the bank needs to firm up its capital cushion, it has ample headroom to increase its debt level without deteriorating its financial position.
What Is 3988’s Level of 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 Bank of China’s ratio at 54.9%. This means slightly over half of the bank’s total assets are tied up in the form of illiquid loans, leading to a sensible balance between interest income and liquidity.
Does 3988 Have Liquidity Mismatch?
3988 profits by lending out its customers’ deposits as loans and charge an interest on the principle. These loans may be fixed term and often cannot be readily realized, yet customer deposits on the liability side must be paid on-demand and in short notice. The discrepancy between loan assets and deposit liabilities threatens the bank’s financial position. If an adverse event occurs, it may not be well-placed to repay its depositors immediately. Relative to the prudent industry loan to deposit level of 90%, Bank of China’s ratio of over 77.6%is appropriately lower, which places the bank in a relatively safe liquidity position given it has not excessively lent out its deposits and has maintained a suitable level for compliance.
Next Steps:
Bank of China passes all of our liquidity and leverage checks which shows it is prudent in managing those factors. This gives us confidence in the operational side of the business, an important aspect to consider before investing in the stock. 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. We’ve only touched on operational risks for 3988 in this article. But as a stock investment, there are other fundamentals you need to understand. Below, I’ve compiled three important factors you should further research:
Future Outlook: What are well-informed industry analysts predicting for 3988’s future growth? Take a look at our free research report of analyst consensus for 3988’s outlook.
Valuation: What is 3988 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 3988 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 past 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. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.
