Hong Kong's banks may have put the worst of the pandemic behind them and may see an improvement in their profitability in 2021, although COVID-19-related uncertainties remain, a report from KPMG said.

Hong Kong-based lenders saw their aggregate profit before tax decline 28% and revenue fall by 11% in 2020 as the pandemic hit several businesses, including trade, retail sales and tourism. Low interest rates eroded margins while faltering businesses pushed nonperforming loans higher, according to the KPMG Hong Kong Banking Report 2021 released June 15.

The ratio of impaired loans among the banks surveyed in the report slipped to 0.71% in 2020, from 0.50% in 2019. The aggregate net interest margin of local banks fell by 41 basis points to 1.37% in 2020. Still, Hong Kong's banks still have relatively strong balance sheets that can withstand the economic impact of the pandemic, according to the report.

"NPL rates, although increased from prior years, are still well within previous crisis [levels]," Paul McSheaffrey, Hong Kong partner for financial services at KPMG China, said during a call with reporters. "They're still pretty, pretty good, I think, given everything that's been going on in the last 12 months or so."

Hong Kong has kept COVID-19 largely under control with stringent quarantine rules for travelers and people who may have come in contact with someone infected with the virus. The city's tally of 11,879 confirmed cases as of June 14, with 210 related deaths, is still considered low, given that it has some of the highest-density population clusters in the world. Authorities remain on alert, meanwhile, as vaccinations have lagged targets. Despite the widespread availability of two vaccines, only 25.9% of the population had received the first dose of vaccine by June 12, while only 17.7% have been fully vaccinated, according to government data.

While a prolonged low interest rate environment will drag on NIMs in the future, the pickup in overall business activity will be a positive, according to the report.

This year, Hong Kong's consumer spending, investment and trade flow has increased, McSheaffrey said, which will help boost the city's economic activity. According to latest government data, Hong Kong's value of total retail sales increased 12.1% year over year in April. For the first four months, retail sales were up 8.5% compared with the same period in 2020. Although numbers have improved, a government spokesperson said that sales volume "was still far below its pre-pandemic level as inbound tourism remained frozen."

Once tourists return, Hong Kong's economy could rebound further, McSheaffrey said. "For the rest of 2021, economic activity in Hong Kong is actually looking quite positive, and that will definitely help the banks."

The report also highlighted key themes that will have a significant impact on Hong Kong's banking sector in the years ahead. Environmental, social and governance action is a key area for regulators, and the financial industry is actively looking at ESG-compliant financial products. Wealth Management Connect, the plan aiming to serve Hong Kong, Macau and seven other cities in mainland China with wealth management products and fund flows, is also an area that will propel Hong Kong's wealth management industry, particularly as banks rely on fees to prop up revenue in the backdrop of declining NIM.

As of June 14, US$1 was equivalent to HK$7.76.