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Chinese Banks' NPLs Set to Rise: Daiwa

The Big Four Chinese banks' results for the first-half of 2011 showed their non-performing loans (NPLs) portfolio had either declined over the previous six months or stayed unchanged, but despite these encouraging signs, Daiwa Capital Markets expects things to worsen for the Big Four.

Pedestrians walk past a branch of the Industrial and Commercial Bank of China (ICBC) in Shanghai.
Philippe Lopez | AFP  Getty Images
Pedestrians walk past a branch of the Industrial and Commercial Bank of China (ICBC) in Shanghai.

One of the reasons given is that the number of loans overdue by less than three months has risen at these banks, even though loans overdue by more than three months, which qualify as NPLs, have fallen.

The Big Four banks — Bank of China , China Construction Bank , Industrial and Commercial Bank of China (ICBC) and Agricultural Bank of China (AgBank) — all reported that loans overdue by less than three months increased between 12.9 percent and 40.6 percent on a half-yearly basis.

According to Daiwa, while the rise in short-term overdue loans is not surprising, given that mainland banks logged a compounded annual growth rate (CAGR) of nearly 20 percent in their loan portfolios over 2005-2010, it urges investors to "monitor the overdue loans trend closely to detect early signs of asset deterioration."

The bank said in a note, "We believe that overdue loans of less than three months serve as an early indicator of a potential NPL increase in subsequent quarters. The trend suggests there will be higher NPLs, in absolute terms, for the second-half of 2011."

Daiwa believes that the safest bet in this sector is ICBC. "(The lender) may not offer the highest growth among the (mainland) banks, but we believe its more disciplined loan growth offers more downside protection," the investment bank said.

ICBC's overdue loans have risen faster than some of its competitors. For example, loans that are overdue by less than three months have risen 28.6 percent in the first-half at ICBC, compared to just 12.9 percent at Agbank. But Daiwa says that's because ICBC reports loans as overdue when some of the instalments are late, unlike AgBank, which only classifies loans as overdue when the principal is overdue.

"Hence, although ICBC's total overdue loans are larger than its NPLs, we believe this is mostly attributable to its more prudent overdue-loan recognition."