25 October 2016
Share prices of mainland banks are yet to full reflect the various problems facing the Chinese economy. Photo: Bloomberg
Share prices of mainland banks are yet to full reflect the various problems facing the Chinese economy. Photo: Bloomberg

Why China banking stocks may fall further

China’s top state-owned banks reported modest first-half earnings growth along with another spike in bad loans.

The rise in bad loans is not surprising, given the nation’s economic slowdown. However, the negative factors are yet to be fully reflected in the lenders’ share prices.

China’s stock market sell-off began in mid-June and gathered pace in the following months. Individual investors rushed to sell after thronging into the market earlier amid a speculative frenzy.

The steep falls in equity prices resulted in huge losses for highly-leveraged investors, mostly middle-class individuals and corporates.

The market crash will affect consumption and investment demand, and the negative wealth effect will be increasingly felt in next 6 to 12 months.

And that will be reflected in the earnings and balance sheets of mainland banks.

If banks are asked to make some sacrifices to support the real economy, they could suffer more, which would result in further downside to the share prices.

Financial stocks had been favored by investors earlier due to expectations of further reforms and liberalization of the sector. 

But there are worries now that the recent turmoil in equity and currency markets could delay the pace of reforms.

The key task facing authorities is to restore market confidence.

MSCI has postponed the inclusion of China’s A-shares into a key emerging markets index. One of the reasons is overly high valuations of some top names that are being propped by the state.

Meanwhile, aggressive government intervention in the market and a crackdown on short-selling have sparked some concern among global investors.

Another thing that we should bear in mind is the renminbi, which has reversed its appreciation path.

Given the possibility of further currency weakness and China’s overall economic slowdown, global investors will be wary about exposure to yuan assets.

It may take some time for A-shares to find a bottom as state financial institutions, the so-called national team, try to implement a market rescue agenda.

The government could spend more money, posing more risks ultimately for mainland banks as capital will be diverted from other important tasks.

Adapted from an article published in the Hong Kong Economic Journal on Sept. 2.

Translation by Julie Zhu

[Chinese version中文版]

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Columnist at the Hong Kong Economic Journal

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