Credit rating agency Standard & Poor's warns that increasing non-performing loans (NPL) could cripple the credit health of mainland banks; but CLSA believes that mainland lenders are at a turning point for business growth, as bad loans remain manageable.

"Mainland banks are probably safer than Western banks, and the balance sheet of the Chinese government is much stronger than that of Western governments," Francis Cheung, managing director of CLSA Asia Pacific Markets, said at a Thursday briefing.

Some worry that mainland banks are under pressure from the impact of more bad loans, which follow the credit boom of 2009. Cheung, however, believes that the non-performing loan ratios of big mainland lenders will remain manageable because the lenders reserved higher-than-usual loan loss provisions. The Central Government has also been active in creating preventive measures and conducting audits to control credit risks.

"We feel certain about mainland banks because new loan growth will turn positive in the second half of 2010, contrasting the 37 percent decline witnessed in the first half of the year," Cheung said.

He said stock prices of big mainland banks are also trading relatively cheap: Bank of China trades at 1.4 times its book value; and Agricultural Bank of China, which raised as much as $53.5 billion in its dual listings in Hong Kong and Shanghai earlier this month, trades at 1.6 times its book value.

Standard & Poor's reported Thursday that mainland banks are facing rising credit risks and their NPL ratios will likely climb in the medium term. The agency expects the sector's NPL ratio to stay flat at about 3 to 4 percent until the end of 2010, because of the current economy and the long tenor of loans for government vehicles.

The ratio is likely to rise as economic growth slows and project loans mature, but it should still stay below 10 percent until the end of 2012, the rating agency reported.

"It's highly likely that some of these loans (to local government financing vehicles) will turn bad over the next few years, given the questionable credit quality of many of the borrowers," said S&P's, adding that these vehicles have taken 18 to 20 percent of total loans in the banking system.

"But we also recognize the sector's structural strengths and we believe these strengths will continue to shield the sector from any foreseeable crises. As such, we stand by our stable outlook for the sector," said S&P's credit analyst Liao Qiang.

Liao agrees that top-tier banks should be able to manage the impact, given their strong credit risk controls. Still, he warns, smaller lenders could struggle because of their proportionally-heavier exposure to local government vehicles and lower profitability.

At the end of June, the NPL ratio for mainland banks was 1.3 percent, down 0.28 percent from the beginning of the year. At the end of June NPLs totaled 455 billion yuan; the bad loan coverage ratio was 186 percent, according to the China Banking Regulatory Commission.

China Daily

(HK Edition 07/23/2010 page3)