Despite Profit Drop, Chinese Banks Increase Rainy Day Provisions

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Although the narrowing of net interest margins in the first half year put strong downward pressure on profits, banks are still substantially increasing provision coverage, an indication of concern for the macro-economic situation and a possible increase in

 

According to the latest interim results from Merchants Bank, one of China's the eight listed banks, net profits in the first half totaled 8.262 billion yuan, down 37.62%, year-on-year. Despite this sharp decline, its provision coverage ratio reached 241.39%, up by 18.1 percentage over last year's.

 

Provision coverage is the proportion of loan-loss provision against non-performing loans, mainly reflecting commercial banks' capacity to make up the loss of loans and manage risk. Liu Minkang, chairman with China Banking Regulatory Commission (CBRC), ordered six weeks ago that the banking sector should effectively strengthen risk management and increase the provision coverage ratio to more than 150%.

When performance is rosy, banks generally increase provision coverage substantially for rainy days, while in bad years they tend to increase profit through smoothing down provision coverage to keep positive growth. However, this year, counter-cyclical operations by banks are in effect.

 

Huaxia Bank, with a net first half profit fall of 13.61%, has increased its provision coverage from 151.22% at the beginning of this year to 153.36%. China Construction Bank has increased its provision coverage by 18.93 percentage points to 150.51%, despite a 4.86% fall in net profit. Shenzhen Development Bank (SDB), a low performer in the banking sector, increased its provision coverage from 105.14% at the beginning of year to 133.07%.

During the first six months, new lending reached an unprecedented level of 7.37 trillion yuan, up 34.3%. But, the base of the current economic recovery is not yet solid, and banks must pay great attention to lending security.

 

Frank Newman, CEO of SDB, expressed his concerns for the strong growth in lending in the first half year. "Now nobody has a very clear understanding of what the substantial increase will ultimately bring. The result may show in one or two years. SDB has adopted a cautious attitude towards lending, which, I believe, as time goes by will prove to be a healthy, sensible strategy."

If conditions permit, banks will set aside even more provisions to reduce pressure from NPLs. Many analysts believe that net interest margins for most banks reached bottom in the second quarter. With the rebound of the capital market and demand, interest margins are expected to pick-up in the third and fourth quarter, bringing room for profits. The substantial growth in provision coverage has laid a good foundation for improving performance in the banking sector in the second half as well as accelerated growth for next year.