Imagine a situation where a country’s five biggest banks have seen their earnings grow 37% in the first half of the year, while their stock prices have dropped by as much as a quarter during the same time.
In China, this is not an existential exercise. The country’s banks, flush with credit card fees, interest income, and wealth-management products, had a bright first half of 2011. Yet, lurking within those results are warning signs that are making some investors shie away.
As in any go-go economy, some people may have gotten loans that should have been denied. In China, that means bad debts are starting to increase. Loans overdue by less than three months jumped 36% at Bank of China (BACHY). At Industrial and Commercial Bank of China (IDCBF), loans three to six months overdue grew by 35%. At China Minsheng Bank (CGMBF), they more than doubled, according to Reuters Breakviews.
Another potential problem may come from all of the infrastructure loans the banks have extended to local governments. The total is estimated to be as much as 14.38 trillion yuan ($2.25 trillion), or a third of all outstanding loans in the country as of the end of last year, the Wall Street Journal said. As much as 40% of those loans are backed by real estate, which means a decline in the China property market could threaten the banks’ profitability.
The banks have also stepped in to help depositors who want to earn a rate of return more than the 3.5% one-year deposit rate. As a result, banks built wealth management products stuffed with loans and securities. There is no telling how it might shake out if the assets start imploding.
Agricultural Bank of China (ACGBY), Bank of Communications (BKFCF), China Construction Bank (CICHY) and Minsheng sold 7 trillion yuan, or more than $1 trillion, of wealth management products in the first half, Reuters said.
Finally, the central bank has begun tightening rules on capital to protect the banks in the event of an economic downturn. The banks may need to raise 500 billion yuan in new capital in the next five years, which is also depressing prices for their current shares.
To be sure, no one is suggesting a run on China’s large banks is imminent. But its easy to see why some investors might want to reserve judgment on these assets until some of these challenges are resolved.