Summary. Jul’s credit growth came in below expectation on disappointing new loans and off-balance sheet financing. On the flip side, CBIRC’s regulatory indicators pointed to encouraging 2Q19 operating results for China banks. We see further margin pressure but attractive risk-reward for the sector, given current undemanding valuation.
- CBIRC data suggests improving 2Q19 results. Banking sector’s 1H19 earnings growth picked up to 6.5% YoY (vs 6.1% YoY in 1Q19), driven by faster asset growth of 9.4% YoY (vs 8.7% YoY in 1Q19) despite softer NIM (-4bp QoQ). Nationwide large and joint-stock banks saw falling NPL ratio and rising provision coverage, whereas regional city commercial banks suffered from deteriorating asset quality. We believe this was mainly due to the latter’s accelerated risk exposure under authorities’ push for more stringent loss recognition standard.
- Both TSF and bank loans missed estimate at RMB 1.01tn (-17.6% YoY) and RMB 1.06tn (-27.4% YoY), lower than consensus forecast by 37.8% and 17.2% respectively. YoY growth in TSF balance moderated to 10.7% from 12-months high of 10.9% in Jun. The negative surprise was mainly due to a sharp contraction in off-balance sheet credit, more than offsetting the strong issuance of corporate and special LG bonds. In particular, undiscounted acceptance bills pulled back RMB 456bn, likely driven by increasing bill financing as banks tried to uphold credit growth amid weak demand. In terms of new loan mix, over 40% was mortgage while only 28% was from corporate segment. The strict control on SOEs’ leverage and tightened property sector financing may further weigh on banks’ loan growth in 2H19.
- Maintain Outperform. Weakening TSF growth could raise market expectation for benchmark rate cut to spur credit demand. That said, we anticipate PBoC to use a combination of open market operation interest adjustment and RRR cut, to keep sufficient system liquidity and gradually lower effective lending rate. H-share China banks are trading at 0.6x FY19E P/B, around 1SD below historical mean. The distressed valuation has largely priced in the sector’s narrowing NIM trend, in our view. We still favor retail-oriented JSBs that could deliver better-than-peers NIM and earnings growth. Top picks are PAB (000001 CH) and CEB (6818 HK).
