Part I - Hong Kong
Hong Kong listed banks1
- 2008 results were hit by the global financial crisis, which led to higher impairment charges and write-downs on loan and investment assets. Overall net profit after tax fell 34.2%.
- Net interest income rose 7.7% due to asset growth and lower cost of funds.
- Net fee and commission income fell by 11.7% as demand for wealth management products decreased substantially in 2008. Volatility in global equity markets and an unfavourable investment sentiment led to a decline in sales of investment products.
- Net losses and impairment charges on investments affected by the global financial crisis totalled at least HKD 25.52 billion in 2008, compared with HKD 7.72 billion a year ago.
- The impaired loan ratio rose from 0.57% to 0.84% while impairment charges rose 158%. New impairment charges rose 80% while releases and recoveries fell 34%.
- Contributions from associates and jointly controlled entities dropped by 26% as the one-off gain on the dilution of investments in mainland banks following their IPOs in 2007 was not repeated this year.
- Capital adequacy remained strong under BASEL II.
- Liquidity remained adequate although banks saw a 5% drop in their average liquidity ratio.
HONG KONG ECONOMIC ENVIRONMENT
- Hong Kong has not been immune from the global financial crisis. The economy suffered from a slow-down, particularly in 2H 2008, causing real gross domestic product (GDP) growth to fall from +7.3% in 1Q 2008 to a contraction of -2.5% in 4Q 2008. Real GDP grew by 2.5% for the full year, well below the average annual growth rate of 7.2% recorded from 2004 to 2007.
- Property prices and rental prices both dipped in 4Q 2008. The decline in property markets was among the highest levels recorded since 4Q 1997, if measured quarter-on-quarter. However, compared with the Asian financial crisis, the supply of new residential units at this time was limited. Construction and completion of private residential units in 2008 slumped to the lowest level since records began in 1997.
- Fund raising activities, stock trading volume as well as the Hang Seng Index (HSI) plunged under the shadow of uncertainties plaguing the global economic outlook. Total funds raised in 2008 were about one-fourth of that for 2007, and most of the funds were raised in 1H 2008. The HSI fell from 27,813 at the end of 2007 to 14,388 at the end of 2008. Stock trading turnover fell 18% in 2008 compared with 2007, but if compared on a quarterly basis, it fell consecutively in each quarter since its peak in 4Q 2007.
- Because of a surge in world food prices, the annual composite consumer price index (CPI) went up by 4.3% in 2008, compared with 2.0% in 2007. The fall in global food and energy prices as well as domestic housing prices in late 2008 eased inflationary pressure in Hong Kong. The year-on-year growth rate for CPI came down from a peak of 6.3% in mid 2008 to 2.1% in December 2008.
- The unemployment rate rose from a decade-low of 3.2% in the summer of 2008 to 5.2% in March 2009. The latest bankruptcy data shows that more than 3,500 bankruptcy petitions were filed in 4Q 2008, up 42% from 4Q 2007. These figures are not considered high compared to those of 2003 when Hong Kong was hit by SARS.
HONG KONG BANKING ENVIRONMENT
- The Hong Kong Monetary Authority (HKMA) has reduced its base rate by 5.25% during 2008 to 0.50% by the end of 2008, the lowest level since the HKMA set up the base rate in September 1998. Although the HKMA typically moves in tandem with the US Federal Reserve, commercial banks in Hong Kong have only cut the prime rate by 175 bps to 5%. However, this has already brought the prime rate down to the lowest level seen in the post-SARS period.
- The net interest margin for retail banks fell from 1.90% in 2007 to 1.84% in 2008. Interest spread between prime and HIBOR narrowed in the 2H 2008 as HIBOR rose in the 3Q. In the last quarter, both prime rates and interbank rates fell to historical lows. Mortgage pricing remained competitive, though since November 2008 banks have raised mortgage rates by 50 - 150 bps as property prices and transaction volumes fell sharply. This has reversed the trend of pricing new mortgages at 2.5% or more below prime. However, the mortgage battle picked up again in March 2009.
- Authorised institutions maintained double-digit loan growth of 10.9%, though this was slower than the 20% growth achieved in 2007. Loan growth was generally broad-based, with loans for use outside Hong Kong and commercial loans taking the lead with growth rates of 16.5% and 15% respectively. The growth momentum for loans for use outside Hong Kong slowed after climbing more than 30% annually over the last two and a half years. Total customer deposits rose 3.2% to HKD 6.06 trillion at the end of 2008. After the collapse of Lehman Brothers ("Lehman"), the Financial Secretary introduced a temporary 100% deposit protection for deposits in Hong Kong up to the end of 2010 as a pre-emptive measure to bolster public confidence in the banking system.
- Bad debt charges rose to 0.18% of the total average assets for retail banks, the highest level since 2004. This was an indication of loan deterioration, but this was still very mild compared with these years following the Asian financial crisis. The gross classified loan ratio at the end of 2008 was still low at 1.24%, although it had increased from 0.85% at year end 2007. The retail portfolios remained healthy. Credit card charge-offs for 2008 were 2.72%, down from 2.90% in 2007. The mortgage delinquency rate dropped steadily to reach 0.05% at the end of 2008, from 0.11% a year ago.
- Retail investors who had bought Lehman-related structured products from banks suffered significant losses following Lehman's bankruptcy. Investors have filed complaints of mis-selling with the banks and regulators.
HONG KONG LISTED BANKS' PERFORMANCE
- The listed banks continued to expand their balance sheets by 8.1%, loan books by 8.5%, and customer deposits by 6.4%.
- The annual growth in loan books was mainly driven by the 16.4% growth in commercial loans. During 2H 2008, the loan books shrank 2.9% given the challenging economic environment.
- Mortgage and credit card loans grew slightly at 4.7% and 2.0% respectively over the year. Loans for use outside Hong Kong and trade finance, both of which grew quickly over the last few years, slowed down in 2008 as a result of the global recession, recording growth of 6.2% and -1.1% respectively.
- Capital adequacy remained strong under BASEL II at 14.1%, compared to 12.5% at the end of December 2007.
- Liquidity in the interbank market remained strong although listed banks generally saw a lower average liquidity ratio in 2008. The lowest average liquidity ratio was 33.1% which was still above the regulatory minimum of 25%.
- 2008 results were affected by the global financial slowdown, which led to higher impairment charges and write-downs of loan and investment assets. Overall net profit after tax fell 34.2%. Based on segmental information disclosed, profit before tax for wholesale banking and retail banking fell by 6% and 31% respectively.
- Based on disclosed information, total investment (including equity investments) write-downs amounted to at least HKD 25.5 billion, compared to at least HKD 7.7 billion in 2007.
- Net interest income remained the main component of income, rising by 7.7% on the back of loan growth. A few banks saw a drop in net interest income. The average prime-HIBOR spreads in 2007 and 2008 were similar though it was more volatile in 2008, while net interest margin continued to be under pressure.
- Non-interest income, net of investment write-downs, fell 30%. Excluding the effect of investment write-downs in both years, non-interest income decreased by 6.2%. Net fee and commission income fell 11.7%, as demand for wealth management products was substantially lower in 2008.
- Operating expenses rose by 12.3% mainly because of higher rental and staff costs and business expansion, particularly in the mainland.
- Operating profit before loan impairment allowances fell by 21% or 4.8% excluding investment write-downs. Impairment charges on loans soared by 158%.
- Contribution from associates and jointly controlled entities fell by 26% despite strong contributions from mainland associated banks. This was because a one-off gain recorded on the dilution of investments in mainland banks in 2007 was not repeated this year.
- Revaluation loss on properties was incurred this year as property prices fell in the second half of the year.
- The weakening economy led to more credit downgrades in the loan portfolios, bringing the impaired loan ratio to 0.84% at the end of 2008, up from 0.57% at the end of 2007. Excluding HSBC, the impaired loan was 0.75%, compared with 0.45% a year ago. Gross impaired loans rose 60% or 85% excluding HSBC.
- Net loan impairment charges for listed banks rose by 158% or 121% excluding BOCHK. New impairment charges rose 80% while releases and recoveries fell 34% as significant recoveries that were recognised in 2007 did not recur in 2008.
- Net individually assessed charges increased 9.3 times. Higher individual charges were set aside for corporate and SMEs loans. Net collectively assessed charges rose 53%. The banks also started to see higher charges on card and personal loan portfolios.
- At the end of 2008, the allowance coverage of impaired loans was 44%, higher than the 28% recorded in the previous year. Loan impairment allowances are not 100% provided as they are made after taking into account collateral values and other expected recoveries.
- Based on disclosed information, listed banks wrote down debt and equity investments by at least HKD 25.5 billion in 2008, in addition to at least HKD 7.7 billion booked in the previous year. In 2007, most of the write-downs were related to debt securities including collateralised debt obligations (CDOs), residential mortgage-backed securities (RMBS), and structured investment vehicles (SIVs). Further write-downs to these investments and other debt securities were made in 2008, bringing the net carrying value of the impaired portfolio to HKD 14.1 billion.
Part II - Mainland China3
Mainland China listed banks
- The mainland China listed banks registered a strong growth of 30.6% in net profit after tax despite the challenging economic environment in 2008. One of the factors for strong growth was the reduction of the domestic income tax rate from 33% to 25%. Excluding this effect, profit before tax still grew double digit at 16.8% due to loan growth and fee income growth.
- Net interest income rose 18.8% on the back of loan growth.
- Net fee and commission income climbed 20.6%. Fees from wealth management and fund agency services dropped sharply, largely due to the slide in domestic capital markets. This was offset by strong income growth in fee income earned from guarantee and credit commitment, settlement and clearing, and consultancy and advisory services.
- The banks did not incur significant foreign exchange losses they had seen in 2007, partly because the banks reduced their net foreign currency exposures. Renminbi appreciation also slowed down in the second half of 2008.
- Impairment write-down on investments in 2008 amounted to RMB 62.5 billion as the global financial crisis deepened, compared with RMB 23.4 billion in 2007.
- The non-performing loan (NPL) ratio fell to 2.04% at the end of 2008 from 2.15% at the end of June 2008 and 2.50% at the end of 2007. The ratio of loan allowances to NPL reached 134%, up from 108% a year ago. Impairment charges on loans rose by 55%, partly to build up collective charges.
- All listed banks were well capitalised with their capital adequacy ratios above the minimum ratio of 8%.
MAINLAND CHINA ECONOMIC ENVIRONMENT
- Mainland China's real GDP growth slowed sharply to 6.8% in 4Q 2008 and achieved a 9% growth for the full year, compared with 13% in 2007. Exports and imports grew 17.2% and 18.5% respectively in 2008. The global recession significantly affected the mainland's exports, bringing the GDP growth for 2008 to its lowest level since 2001.
- The consumer price index (CPI) for 2008 reached 5.9%, compared with 4.8% in 2007. Food prices went up by 14.3% while housing prices rose 5.5%. The CPI hit an almost 12-year high of 8.7% in February 2008 and began to ease since 2Q 2008. The CPI fell 1.6% year-on-year in February 2009.
- Total sales of consumer goods rose by 21.6% in 2008 or 14.8% in real terms, compared with 12.5% in 2007. Vibrant spending has been led by strong individual income growth over the past few years and the growing demand for higher quality consumer goods. In real terms, the per capita urban residents' disposable income and per capita rural residents' cash income grew by 8.4% and 8% respectively.
- Property prices continued to decline across 70 mainland cities in December 2008. Shenzhen saw a fall of 16.3% year-on-year in housing prices. A series of government stimulus measures were introduced to stabilise the market.
- The global financial crisis drove the Shanghai Composite Index down from its peak of 6,124 points in mid-October 2007 to 1,664 points on October 28 2008, the lowest level since September 2006. The aggregate stock trading volume in the Shanghai and Shenzhen stock exchanges dropped 42% over 2007. The Shanghai and Shenzhen Composite indices also dropped 65.4% and 61.8% respectively compared with the end of 2007.
- The Renminbi exchange rate appreciated 6.88% and 10.43% against the US dollar and Euro respectively in 2008. Renminbi appreciated quicker in 1H 2008 before stabilising in the second half of the year.
MAINLAND CHINA BANKING ENVIRONMENT
- In the first half of 2008, the Chinese government used monetary policy to strike a balance between economic growth and rising inflation. During these six months, the People's Bank of China (PBOC) raised the Renminbi deposit reserve ratio five times, causing the ratio to climb from 14.5% at the beginning of 2008 to 17.5% in June 2008. In the second half of 2008, the PBOC cut the Renminbi deposit ratio four times to ensure sufficient liquidity in the banking system as the global financial crisis worsened. In late September 2008, the PBOC began to apply different reserve ratios for the bigger and smaller banks. At the end of 2008, the reserve ratio for small and medium-sized banks was trimmed to 13.5%, while that for bigger banks was 15.5%.
- Interest rates remained unchanged in the first eight months of 2008, but in the last four months of 2008, the PBOC lowered the benchmark interest five times. The one-year benchmark deposit rate was cut by a total of 189 basis points to 2.25% while the one-year benchmark lending rate was cut by a total of 216 basis points to 5.31%. The savings deposit rate was cut by 36 basis points to 0.36%. As lending rates decreased faster than deposit rates, this put pressure on the net interest spread.
- Total deposits for all financial institutions rose 19.3% in 2008, with savings deposits accounting for 47.1% of the total personal and corporate deposits, down from 51.2% at the end of 2007.
- Total loans in all financial institutions grew by 18.0% in 2008 to RMB 32.0 trillion at the end of the year. Personal loan growth slowed to 13.7% in 2008, compared with 30.4% in 2007. Corporate loans on the other hand rose by 20.0%, compared with 13.1% in 2007. Discounted bills rose in 2H 2008, reversing the declining trend seen in recent years. This was partly driven by ample liquidity at the banks as there were fewer investment opportunities in the midst of the global financial crisis.
- The NPL ratio of commercial banks improved to 2.45% in 4Q 2008 from 6.17% in 4Q 2007, mainly due to the restructuring of a state-owned bank. The NPL ratio for shareholding banks began to stabilise in the 2H 2008 and reached a low of 1.35% in 4Q 2008, compared with 2.15% in 4Q 2007.
MAINLAND CHINA LISTED BANKS' PERFORMANCE
- The mainland listed banks achieved balance sheet and loan growth of 17.0% and 16.9% respectively. Corporate loans grew 15.4% while personal loans rose 12.5%. Discounted bills, which the banks scaled down previously due to lower yields, reversed its declining trend to climb 64%. The growth was particularly strong in 4Q 2008, where banks began to expand their discounting bills business.
- The rise in personal loan was led by growth in mortgage lending, which increased 11.1%. Overall, mortgage books accounted for 15.2% of the total loan books at the end of 2008, down from 16.0% a year ago.
- As the property market remained sluggish, we began to see a decline in the concentration of property related lending. The aggregated concentration in construction, real estate and mortgages lending fell to 26.0% at year end 2008 from 27.2% a year ago.
- Credit card lending, which grew rapidly over the last few years, surged by 95% in 2008. Nevertheless, it was still a very small segment of the loan book, accounting for just 0.87% of the customer loans at the end of 2008.
- The deposits with central banks for all listed banks rose by 49% mainly because the bigger banks shored up both statutory and voluntary reserve deposits at central banks.
- Customer deposits rose 19.5%. At the end of 2008, savings deposits accounted for 48% of total deposits, down from 52% at year end 2007. Loan to deposit ratio stood at 63%, slightly lower than the 65% recorded at year end 2007.
- The listed banks were well capitalised as they had all achieved the minimum CAR standard of 8% since June 2008. The average CAR of all listed banks was 12.6% at the end of 2008, compared to 12.8% a year ago.
- The mainland banks posted strong results, with net profit after tax rising 30.6%. One reason for the strong growth was the reduction in the domestic enterprise income tax rate from 33% to 25% effective 1 January 2008. Excluding this effect, profit before tax still experienced a double digit growth of 16.8%. Growth in earnings was driven by loan growth and fee income growth, and offset by higher impairment charges.
- Impairment write-down on investments in 2008 amounted to RMB 62.5 billion as the global financial crisis expanded, compared with RMB 23.4 billion recorded in 2007. The total charge was about 11.4% of the industry's profit before tax. Almost all banks made impairment provisions against their investments in 2008, with four banks suffering a charge exceeding 10% of their profits before tax.
- Net interest income rose 18.8% on the back of loan growth. Net interest margin climbed mildly at most banks mainly due to higher interest spread. The spread however began to narrow in 4Q 2008 when the PBOC started cutting benchmark interest rates.
- Net fee and commission income rose 20.6% despite a sharp decline in agency service fees. Fees earned from fund agency service shrank as the domestic capital markets were affected by the global downturn. On the other hand, net fee income from guarantee and credit commitment rose 114%. Bank card fee and remittance & clearing fees rose 41% and 43% respectively. Consultancy and financial advisory fees also surged.
- Mainland listed banks no longer suffered the significant foreign exchange losses, thanks to a smaller net foreign exchange exposure and a slowdown in Renminbi appreciation in 2H 2008.
- Operating expenses rose 15.9%, of which staff costs rose 7.5%. Staff costs included accruals for the benefits expected to be paid to early retired staff, which was significant to a few banks in 2007 but not in 2008. Cost to income ratio for 2008 was 41%, slightly lower than 43% for 2007.
- Loan impairment charges rose by 55%, mainly because a number of banks raised the impairment charges significantly to meet the regulator's recommendation. Net individually assessed charges went up by 15.3% while net collectively assessed charges almost doubled.
- The China Banking Regulatory Commission requested that banks set aside an adequate provision in view of the global slowdown and attain a non-performing loan (NPL) coverage ratio of 130%, or 150% for those with higher risks. The coverage ratio was measured by total loan allowances to NPL. At the end of 2007, the provision coverage ratio was 108%. This ratio had reached 134% at the end of 2008.
- The NPL ratio continued to improve on the back of the solid Chinese economy, dropping to 2.04% at the end of 2008 from 2.50% at the end of 2007. The decline in NPL ratio was observed in most listed banks. By the end of 2008, all listed banks achieved NPL ratios of less than 3%.
- In response to changes in global macro economies, mainland listed banks reduced their holding in investment securities denominated in foreign currencies as well as high-risk debt securities.
- The remaining net book value of the impaired investment portfolio was at least RMB 92.9 billion, based on disclosed information. The recovery of the global economy as well as the credit market will determine whether these assets deteriorate further, or whether more assets will become impaired in 2009.
Commenting on the Hong Kong listed banks' results, Martin Wardle, partner in charge of KPMG's Financial Services practice in Hong Kong, said:
"We are pleased to see that the Hong Kong listed banks managed to maintain profitability in 2008 despite the very challenging operating environment, although overall net profit after tax fell 34.2%. Net interest income remained the main component of income, rising by 7.7% due to loan growth. Volatility in global equity markets and an unfavourable investment sentiment led to a decline in sales of investment products. Net fee and commission income fell 11.7%. On the other hand, fee income earned from lending business continued to grow.
Investment impairments rose as the global financial crisis shook the world economy in 2008. The equity investment portfolios of the listed banks were also affected as stock prices began to slip. Losses were taken on exposures to a number of financial institutions, including Lehman Brothers, Washington Mutual as well as Icelandic banks. Based on disclosed information, listed banks wrote down debt and equity investments by at least HKD 25.5 billion in 2008, in addition to at least HKD 7.7 billion booked in the previous year. Remaining structured investments at the end of 2008 totalled HKD 14.1 billion. Whether any further write down will be required will depend on the speed of recovery, particularly in the US."
Walkman Lee, a partner in KPMG's Financial Services practice, commented:
"The rapid downturn in the second half of 2008 led to some corporate failures, bringing the impaired loan ratio to 0.84% at the end of 2008, up from 0.57% at the end of 2007. Net loan impairment charges rose by 158% or 292% excluding HSBC and BOCHK. Net collectively assessed charges rose 53% while net individually assessed charges increased 9.3 times. Excluding BOCHK which had a net write-back in 2007, net collectively assessed charges rose 59% while net individually assessed charges rose 2.7 times. Exporters in Hong Kong were affected by significantly reduced demand from the US and other developed countries. Also, the sharp decline in commodities prices and the depreciation in foreign currencies against the US dollar have affected some customers.
While the delinquency ratios for listed banks are currently not considered high by historical standards, we have seen increasing signs of deterioration since late 2008. Lenders should stay on guard against any further acceleration of the downturn in the global and local economy and dynamic credit risk management is critical. Loan officers should keep close contact with high risk customers and be alert to signs of liquidity problems."
Commenting on the Mainland listed banks' results, Simon Gleave, partner in charge of KPMG's Financial Services practice in mainland China and Hong Kong, said:
"We are delighted to see strong growth of 30.6% in after tax profit or 16.8% in pre-tax profit for Mainland China listed banks despite the setback in performance across major financial services sectors worldwide. Strong growth in profits was supported by a reduction in the income tax rate, loan and fee income growth. Net interest income grew by 18.8%, similar to loan growth. The average spread between loans and deposits was still higher than 2007 in most banks, though the increment was smaller than in the prior year. A reduction in the interest rate towards the last quarter of 2008, as well as a surge in discounting bills business which carried lower yields, began to put pressure on the interest margin.
Non-interest income grew by 39%, thanks to fee income growth as well as foreign exchange gains. Fee income earned from bank cards, remittance and clearing fees and credit and guarantee services remained strong, offsetting the slowdown in wealth management fee income. Previously, the bigger banks suffered exchange losses from their foreign currency exposures as the Renminbi appreciated. As the Renminbi began to stabilise in the second half of 2008 and banks reduced their foreign currency exposures, they no longer suffered heavy losses."
Impairment charges on assets rose 55% in 2008 on higher impairment allowances for loans and investments. The global debt market remained distressed, leading to further deterioration in credit quality of debt securities. Based on disclosed information, listed banks in mainland China had written down investments by at least RMB 62.5 billion in 2008, in addition to at least RMB 23.4 billion booked in the previous year.
Loan quality remained healthy with a lower NPL ratio observed in most listed banks. The NPL ratio for mainland listed banks came down to 2.04% at year end 2008. Gross NPLs also fell by 4.6%. In view of the rising risks and challenges in the operating environment, the CBRC requested all banks to maintain a higher loan provision level, leading to higher loan impairment charges for the year. The average loan provision to NPL ratio for listed banks reached 134% at the end of 2008, compared with 108% a year ago. The CBRC has also encouraged banks to maintain a strong capital adequacy ratio. A number of banks issued subordinated debt or shares through private placement to strengthen capital ratios in 2008. Others have issued or plan to issue these in 2009."
- Ends -
1. The 13 Hong Kong banks included in our analysis are: BOC Hong Kong (Holdings), The Bank of East Asia, CITIC Ka Wah Bank, Chong Hing Bank, Dah Sing Banking Group, Fubon Bank (Hong Kong), Hang Seng Bank, Hongkong and Shanghai Banking Corporation, ICBC (Asia), Public Financial Holdings, Standard Chartered Bank (Hong Kong), Wing Hang Bank and Wing Lung Bank.
2. Disclosed information refers to results announcements and media reports.
3. The 14 mainland banks included in our analysis are: Bank of China, China Construction Bank, Bank of Communications, China CITIC Bank, China Merchants Bank, and Industrial & Commercial Bank of China which are listed in both Shanghai and Hong Kong stock exchanges, and also Bank of Beijing, Bank of Nanjing, Bank of Ningbo, China Minsheng Banking, Huaxia Bank, Industrial Bank, Shanghai Pudong Development Bank, and Shenzhen Development Bank which are listed in the Shanghai stock exchange.
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