Problem loans are in the spotlight at major Chinese banks, as asset quality takes a knock from multiple factors, including geopolitical tensions, a slow post-pandemic recovery and an ailing real estate sector.
Aggregate stage 2 loans, which measure loans that carry a higher credit risk under International Financial Reporting Standards (IFRS) accounting standards, increased year over year in the January-to-June period at large Chinese banks, S&P Global Market Intelligence data shows. The aggregate stage 2 loans as a percentage of gross customer loans at big banks climbed to 2.41% as of June 30, up from 2.24% a year ago and from 2.20% in the same period in 2021.
But the proportion of stage 2 loans in the first half improved from the 2.47% recorded in the second half of 2022, and are markedly better than the 2.87% recorded in the January-to-June of 2019, the data shows.
The Market Intelligence sample covered the 15 biggest Chinese banks by gross customer loans that also reported detailed IFRS 9 classification for every half-year period since 2019.
China's economy has slowed due to the COVID-19 pandemic and geopolitical tensions. At the same time, the real estate sector, which makes nearly a quarter of China's GDP, has faced elevated credit risks. The finances of local governments, many of them dependent on land sales for revenues, have been strained. Despite this, GDP grew 4.9% year over year in the third quarter, and most economists expect the world's second-biggest economy to close 2023 with growth close to the official target of about 5.0%.
"The combination of factors, such as the exploded debt risk in the real estate sector and some local financing platforms, has led to a decline in the quality of loan assets in the first stage [...] and an increase in the scale of loans transferred from stage 1 to stage 2," said Wayne Liu, senior manager at Deloitte Consulting, in comments emailed to Market Intelligence.
As of the first half of 2021, only 2.20% of loans were classified as stage 2, according to Market Intelligence data. By the second half of 2022, this had increased to 2.47%, the data showed.
This apparent decline in asset quality, however, stands in contrast with an official, albeit not identical, measure that shows nonperforming loans are declining. The aggregate ratio of Chinese commercial banks' special-mention loans, a somewhat comparable classification of riskier loans, improved to 2.14% in the April-to-June quarter from its peak of 3.00% in the third quarter of 2019, according to data from the National Administration of Financial Regulation, the new umbrella regulator for the financial sector in China.
*Click here to download a spreadsheet with the IFRS 9 loan classification data featured in this story.
Forward-looking
The IFRS standards, issued by the International Accounting Standards Board, are designed to bring transparency, accountability and efficiency to financial markets. IFRS 9, which Chinese banks adopted in January 2018, specifies how an entity should classify and measure financial assets, liabilities and some contracts to buy or sell nonfinancial items.
"The implementation of IFRS 9 enables the Chinese banking sector to become more forward-looking to predict potential systemic risks in the future and reflect them in provisioning," said Liu.
Strong loans
Loan growth has remained strong at the country's banks, despite the challenges.
"The countercyclical expansion trend of credit is obvious," Liu said, adding, "As the economy gradually recovers from the pandemic, it is conservatively expected that loans will remain stable at all stages in the near future."
Stage 3, or impaired, loans stayed in a steady downtrend at 1.35%, down from 1.54% in the second half of 2020, Market Intelligence data showed. The ratio of nonperforming loans, a proxy of Stage 3 loans under the IFRS 9 standard, fell to 1.62% from 1.96% three years ago, according to data from the National Administration of Financial Regulation.
"Stage 3 loans generally mirrored [nonperforming loans], which have fallen amid write-offs and disposals," said Ming Tan, a director at S&P Global Ratings. However, "with the end of the moratorium policy, some stage 2 loans could enter stage 3," Tan said. China had asked banks to temporarily suspend loan repayments by some customers struggling from the drag of the pandemic.
Reserves
The aggregate stage 2 loan reserves as a proportion of stage 2 loans stood at 22.23% in the first half, the highest level in at least 4.5 years, according to Market Intelligence data. Largely reflecting the improvement in the banks' impaired loan ratios, aggregate stage 3 reserves hit a fresh low of 67.39% in the January-June period, the data showed.
"We believe provisions have become more forward-looking based on loss expectations," Tan said.
State-owned Postal Savings Bank of China Co. Ltd. had the lowest proportions of stage 2 loans at 0.48% and stage 3 loans, at 0.81%, nearly unchanged from a year ago. Among China's large banks, the highest stage 2 loans were held by China Minsheng Banking Corp. Ltd., a joint stock bank with nationwide operations. The lender's stage 2 loan proportion stood at 4.65%, or 3 basis points lower than that of last year, while stage 3 loans surged 18 bps to 2.03%.
