ABC has achieved steady performance so far in 2019
Sector headwinds persist: NIM is under pressure, and industrial enterprises’ struggles may weigh on loan quality
Downgrade to “NEUTRAL”; TP: HKD3.7.
Latest performancereview
ABC’s NIM came in at 2.16% for1H19 and furtherslipped in 3rdquarter per our estimate.The declining NIM isdue to significantly increased costsof deposits in 1H19, as well as the LPR cut in 3rdquarter. Total amount of NPL slightly increased qoq in the thirdquarter. However,aggregate NPL ratio stood at 1.42%at the end of 3rdquarter, vs. 1.43% at 1H19’s end. Provision coverage of impaired loanswas 281.26% at the end of3rdquarter, vs. 278.38% at 1H19’s end. Overall loan quality has beenstable. ABC’s county-area loansgrewslightly faster than urban-area loans for the first three quarters. NPL ratio of county area loan decreased to 1.75% at the end of3rdquarter, vs. 1.82% at1H19’s end.
Pressure on NIMand loanquality persistsacross the sector
Large banks’ aggregate NIM has been mainly driven by the asset side since 2016. Per our research, weighted average loan rates led large banks’ aggregate NIM by approximately six months. As PBOC hopes to pursue lower effective borrowing costs by LPR reform and subsequent LPR cuts since August, large banks’ aggregate NIM might be trimmed in the short to medium-term. Furthermore, banks’ loan quality is under pressure given: 1) deteriorating performance of industrial enterprises, for cumulative growth of industrial enterprises’ revenue/profits, which in the past had a notable negative correlation with NPL formation ratios of major banks, in general dropped since July 2019; per ABC’s latest disclosures, ~33% of the company’s total NPLs are from the manufacturing industry; industrial enterprises’ ongoing struggles may weigh on ABC’s loan quality; 2) a high level of household debt in China, which may limit households’ ability to service debt.
Re-rating, valuation and risks
ABCis trading at ~4.8x 2020E P/E, or ~0.55x2020EP/B, implyinga 2020E dividend yield of ~5.1%. We revised down ABC’s 2019E/2020E EPS by 2%/7%. We downgrade our rating from “BUY” to “NEUTRAL” for the company, after taking into account pressure on the sector’s NIM and loan quality and industrial enterprises’ worrisome performance. Also, ABC has a relatively low percentage of interbank liabilities, thusitmaynotbenefit muchif fundingcosts of interbank liabilities drop. We applied a lower P/B valuation multiple and revised down TP by ~18% to HKD3.7 (partly due to RMB’s depreciation), equivalent to ~0.61x 2020E P/B (~0.70x previously applied), representing a ~15% discount to its average P/B of the last 5 years. Key catalysts: NIM expansion, upwardasset qualitytrend.Key downside risks: NIM pressure, downwardasset qualitytrend.