Smaller Chinese Policy Banks Are Weak Links: Analyst
While China's ballooning local government debt has many investors steering clear of financial stocks, one equity analyst maintains that all banks are not made equal, and it's the smaller policy lenders, or banks tasked to finance economic and trade development projects, which are the weak links.
"Policy banks like China Development Bank absorb a good portion, about 25-30 percent of these local government financing loans onto their books, while big banks tend to have better quality local government loans," Senior Equity Analyst of Sanford C. Bernstein Mike Werner told CNBC.
These policy banks tend to have poor credit quality, Werner says, as they are generally sought by the local government for funding as a last resort after being denied credit by big state-owned banks.
"Anytime this happens, risk management and credit quality tend to deteriorate, and smaller commercial banks (and policy banks) have to sweep up all the loans," he noted.
Chinese government officials have repeatedly warned of the large systemic risk posed by loans made to local governments since 2008, when the country embarked on a stimulus spending spree to ward off the global financial crisis.
Concerns over the health of Chinese banks were further fanned recently after government data showed non-performing loans (NPLs) at local banks in the fourth quarter increasing by 20.1 billion yuan ($3.19 billion), or 4.9 percent from three months earlier, the first rise since 2008.
While Werner projects the NPL ratio to grow by 40-50 percent this year to hit 1.4-1.5 percent from the current 0.96 percent, he sees that figure as being relatively low compared to other countries, and believes that banks are adequately cashed-up.
Overall, Werner is positive on the sector, and favors the large state-owned banks like Industrial and Commercial Bank of China and China Construction Bank , which are the more profitable lenders.
"ICBC and CCB have strong liquidity and capital profiles, and I don't think the current valuation reflects that," Werner said, adding that valuations will improve as the central bank leans towards an easy monetary policy stance.
"Since the tightening cycle began, valuation multiples have compressed. With monetary policy easing expected in 2012, this will have a positive impact on banks' valuations," he said.