Hong Kong banks' exposure to China in focus as BEA kicks off earnings season (updated)

Dah Sing Banking

01/08/2014 09:22

* BEA H1 net profit hits record HK$3.58 bln vs HK$3.38 bln 
yr ago 
    * BEA says asset quality to remain under pressure in H2 
    * HK banks have increased their mainland exposure in recent 
yrs 
 
 (Adds details from press briefing) 
    By Saikat Chatterjee 
    HONG KONG, Aug 1 (Reuters) - The first of Hong Kong's banks 
kicked off earnings on Friday with the biggest family-run lender 
posting a record interim profit after giving more loans to 
mainland borrowers, renewing investor focus on credit lines to 
China and the risks they pose. 
    Bank of East Asia  0023.HK , which reported a 6 percent 
increase in first-half net profit to HK$3.58 billion ($462 
million), said it would take steps to mitigate credit risks in 
China where it expected asset quality to remain under pressure 
in the second half of the year.  
    The growing exposure of Hong Kong banks to the mainland in 
recent years has grabbed headlines about their ability to 
scrutinise credit risks against the backdrop of a slowing 
Chinese economy. Rating agencies and supranational bodies such 
as the International Monetary Fund have openly voiced concern.  
    Long praised by investors for their sound risk management, 
Hong Kong's mid-sized banks are increasingly becoming more 
exposed to any blowup in default risk as they hunt for new 
opportunities in the mainland amid sluggish growth at home.  
    "Hong Kong banks' exposure to China has been rising for a 
while, and we would be cautious of any sharp rise in exposure 
because they may not have the requisite expertise to analyse the 
underlying credit risks on the ground," said Frank Tian, 
portfolio manager and part of a team that manages $25 billion in 
equities at Aberdeen Asset Management.  
    Data from the Hong Kong Monetary Authority (HKMA), the 
city's de-facto central bank, shows a sharp rise in cross-border 
business. By the end of 2013, the exposure of Hong Kong banks to 
corporate borrowers constitutes a fifth of their total assets 
compared with around 5 percent in 2007.  
    While the HKMA has repeatedly said a significant share of 
the non-bank mainland exposure is backed by guarantees and is 
symbolic of a strong financial centre, the fact remains the 
ability of a Dah Sing Bank  2356.HK  or a Wing Hang Bank 
 0302.HK  to absorb big losses is far less than their foreign 
counterparts such as Standard Chartered  STAN.L  or HSBC 
 HSBA.L .   
    For example, Bank of East Asia, a medium-sized city lender, 
would require only roughly 15 percent of its net loan book going 
sour to wipe out its entire equity base, according to its 2013 
annual earnings.  
     
    CHINA EXPOSURE  
    Bank of East Asia said loans to customers in mainland China 
edged up 9.5 percent to HK$207 billion at the end of June from 
end-December. Those loans comprised roughly half of its total 
loan book.  
    Bad debts as a percentage of total loans rose to 0.44 
percent in the first half from 0.39 percent at the end of 2013.  
    "A tipping point may be reached if the yuan depreciates very 
sharply or if loan books are expanded aggressively," said 
Aberdeen's Tian.  
    Under an extreme scenario presented by the IMF in May, if 
the default rate in the mainland banking system's interbank 
obligations hits 80 percent, the losses would wipe out all the 
capital in the city's banking system. 
System-wide, non-performing loans as a percentage of their total 
loan book remains below 1 percent so far. 
    Bank of East Asia said at an earnings briefing on Friday it 
expects to see more stress in China's property sector due to 
maturing products from trust companies, which pool money from 
rich people and companies to make high-interest loans and are 
part of the China's vast and opaque shadow banking system. 
    Shares of the bank closed 0.6 percent lower on Friday, in 
line with a 0.9 percent drop for the benchmark Hang Seng Index 
 .HSI .   
     
    UNDER PRESSURE 
    To be sure, the city's lenders are among the best 
capitalised in the world with average capital adequacy ratios of 
more than 15 percent and system wide NPLs at 0.04 percent.  
    Even in its China business, much of the credit risk in the 
mainland is towards state-owned enterprises and to finance 
non-mainland companies' operations within China. Trade finance 
thanks to the growing internationalisation of the yuan has also 
grown. 
    "This means high default rates are unlikely," said William 
Fong, investment director of Asian equities at Barings Asset 
Management in Hong Kong which manages $2.8 billion of assets. 
    Notwithstanding their growing China exposure, Hong Kong 
banks command some of the highest price-to-book ratios within 
the region due to their sound risk management techniques which 
saw them escape the 2008 financial crisis unscathed.  
    That said, investors are wary that banks which have expanded 
their footprint aggressively in China - whether for trade 
finance or corporate lending - may be most at risk at a time 
when other foreign banks have pulled back. 
    While this is an opportunity for the banks and their 
corporate customers, it also entails risks, with future credit 
performance likely to be different from past experience, Moody's 
strategists wrote in a March report.  
($1 = 7.7498 Hong Kong Dollars) 
 
 (Reporting by Saikat Chatterjee; Editing by Anne Marie Roantree 
and Ryan Woo) 
 ((saikat.chatterjee@thomsonreuters.com)(852-2843-6548)(Reuters 
Messaging: saikat.chatterjee.reuters.com@reuters.net)) 
 
Keywords: BANK EAST ASIA RESULTS/