The “Big Four” banks in China, namely the Industrial and Commercial Bank of China (01398), China Construction Bank Corporation (00939), Agricultural Bank of China (01288) and Bank of China (601988), reported the first-half earnings that are in line with our analyst estimates.
“The net profit growth of these banks over the first six months is generally in line with our estimates. This is given the policy tightening arrived ahead of the fourth quarter, the previously anticipated timeline,” says Iris Tan, senior equity analyst at Morningstar.
The four largest banks saw around 10% net profit growth year-on-year. The growth rate was accelerated at least by 2% compared to the first quarter due to strong loan growth. Tan expects the trend of credit quality improvement to continue at the larger-scale banks and their net interest margin and return on equity should hold up well. She, therefore, retains fair value estimates as below.
Outside of the four largest banks, Ping An Bank (000001) saw a pleasant surprise for investors.
“There are multiple factors that contribute to a positive fair value adjustment to Ping An Bank. Credit quality in corporate and retail loans improved significantly. Its wealth management business has gained a stronger foothold, narrowing its gap with rival China Minsheng Bank.”
Tan increased her fair value estimate for the bank to CNY 24 from CNY 22 per share.
Among most banks trading their historical trough, China Construction Bank remains the sector’s best idea.
“The current share price’s discount to our fair value estimate remains central to select the best pick and we also factor in the stock performance for the future quarter,” explains Tan.
She says that CCB’s operational performance and share price movement have been relatively stable. Recently, its fee income growth is seen outpacing that of ICBC, particularly in areas like credit cards and payment. At the moment, market concerns continue to peg on the property loan and their lasting impacts on banks. Tan believes the risks facing the largest banks are “more than reflected” in the cheapened valuation. “Share price free fall in July has reflected more than the actual impacts on these better-quality banks. Banks with strict bad debt recognition should make the credit quality risks manageable.”
Sustainable Dividend
Traditionally, Chinese banks have been preferred by dividend investors. Tan foresees the trend to continue as she identifies minimal pullback on their dividend payout ratio, which have been staying at a 30% level.
“In our Chinese bank coverage, a dividend payout ratio of 30% would still prove fungible despite an evolving policy and tightening environment.” Moreover, amid the current operating backdrop for banks, it would be unlikely for the bank to adjust payout ratio upward from the 30% line.
“There lacks a pull factor for the banks’ management to ramp up dividend paid to shareowners, given they are trading at their historical troughs. In our view, companies giving out a 30% of their profit are still very attractive for investors in this region.”
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