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Good times may soon be over for China's banks as interest margins are squeezed in the fourth quarter by rising competition for deposits

Georgina Lee georgina.lee@scmp.com

China's state-owned banks, which survived the US-China trade war with their asset quality and profitability unscathed, may see their interest margins coming under pressure in the fourth quarter as competition intensifies for deposits.

The overall non-performing loans (NPL) ratio in China's banking industry improved by between 1 and 2 basis points in the third quarter. This came at the expense of net interest margins (NIM), especially among the four largest state-run lenders " Industrial & Commercial Bank of China (ICBC), Bank of China, Agricultural Bank of China and China Construction Bank " which fell by about 1 basis point in the third quarter from the previous three months, according to government data.

"While management at Chinese banks are confident that their asset quality will continue to improve, the pressure on NIM will continue, as the competition for deposit will extend into the fourth quarter," said CIMB International Securities' banking analyst Terry Sun.

The squeeze on profitability underscores how China's financial industry is grappling with survival after more than 12 months of a bruising trade war with the United States, amid slowing demand for loans and investments in the local economy's slowest quarterly growth pace in decades.

The banks' margins are squeezed by higher returns that they must pay to depositors to attract their funds " the banks' cost " and the interest rate they can charge to lend money to borrowers.

The difference between the cost and the revenue, known as the interest rate spread, has been the biggest source of profitability for China's state-owned banks, in an industry where the financial authorities keep a tight grip on the interest rates for deposits and loans.

On one hand, Chinese banks have had to offer higher rates on their deposits and investment products to compete for customers, adding to costs for the banks.

The expected yield for structured deposits " an investment-linked financial product whose returns are tied to the performance of a stock index, foreign exchange or interest rates " was 3.9 per cent per annum in September, almost double the one-year savings rate at 2 per cent. And the issuance of thee hybrid investment-deposit products will only continue with ever-higher costs to the banks, analysts said.

On the other hand, banks have seen their loans rates cut, after the central bank loosened its grip on lending rates by switching to a loan prime rate (LPR) regime. The one-year LPR was cut twice by a combined 11 basis points in August and September, while the five-year LPR " the benchmark used for residential mortgage loans " was left unchanged.

That would benefit China Construction Bank the most, as its sizeable mortgage loans book at 5.06 trillion yuan puts it in the best position to gain from the higher lending rate, said Sun.

Still, the net interest margin among Chinese banks, at close to 2 per cent, compares favourably with Japanese banks at less than 1 per cent and with European lenders at between 1 and 2 per cent, said Societe General, in a report last week. Investors' concerns on the profitability and growth of Chinese banks may have been "overdone," the bank said, recommending investors to go "long" on the industry.

The financial picture among banks had been rosy thus far, with the industry's overall profitability inching up during the third quarter, compared with the preceding three months. Overall third-quarter net profit growth rose 7.5 per cent, 20 basis points higher than the three months ended June, in line with analysts' expectations.

Agricultural Bank reported the fastest profit growth among the so-called Big Four, with third-quarter net profit rising 5.8 per cent to 59 billion yuan, even though revenue was little changed at 151.8 billion yuan (US$21.6 billion). For the first nine months, the net income of Beijing-based Agricultural Bank rose 5.2 per cent to 180.3 billion yuan, from the same period last year.

Bank of China, which traces its root to 1912, had the lowest profit growth rate among the four, with third-quarter net income growing 3 per cent to 45.53 billion yuan, while its nine-month net profit was up 4.1 per cent to 159.6 billion yuan.

"Cross-border banking business accounted for less than 10 per cent of the Chinese banks' assets, [which helped] cushion Chinese banks from the impact of US-China trade tensions," Sun said. "The exception is Bank of China, whereby overseas assets account for 25 per cent" of its total assets, he said.

This article originally appeared in the South China Morning Post (SCMP), the most authoritative voice reporting on China and Asia for more than a century. For more SCMP stories, please explore the SCMP app or visit the SCMP's Facebook and Twitter pages. Copyright © 2019 South China Morning Post Publishers Ltd. All rights reserved.

Copyright (c) 2019. South China Morning Post Publishers Ltd. All rights reserved.