16.09.2016, 10:03

Fitch Affirms Six Chinese Mid-Tier Banks; Outlook Stable

OREANDA-NEWS. Fitch Ratings has affirmed the Long-Term Foreign-Currency Issuer Default Ratings (IDR) and Viability Ratings of six Chinese mid-tier commercial banks. The Outlooks on the banks' IDRs are Stable. A full list of rating actions is at the end of this commentary.

The six banks are:

- Industrial Bank Co., Ltd

- China MinSheng Banking Corporation

- Ping An Bank Co., Ltd

- Hua Xia Bank

- China Guangfa Bank Co., Ltd.

- Bank of Beijing

KEY RATING DRIVERS

IDRS, SUPPORT RATINGS AND SUPPORT RATING FLOORS

All of the banks' IDRs are based on state support and are at the banks' Support Rating Floors of 'BB+'. This reflects Fitch's continued expectation that extraordinary support from the central government would be forthcoming in the event of stress.

Fitch affirms the banks' Support Ratings of '3', and together with the affirmation of the banks' Support Rating Floors, indicates the agency's expectation of a moderate probability of state support, if needed. This is based on several factors, including their relative size, domestic significance and ownership structure. There is typically no direct central government ownership at these banks, nor any history of past government support, despite their status as national joint stock commercial banks (except for Bank of Beijing, which is a city commercial bank).

Increased ownership by state-owned strategic investors at some of these mid-tier banks over the past year or two comes at a time when foreign-ownership is declining. These ownership changes are not expected to reduce support propensity at these banks, as Fitch expects support to come primarily from the state, unless the portion of private ownership increases significantly and results in a meaningful reduction in state or policy influence.

VIABILITY RATINGS

Fitch affirmed the Viability Ratings of China's six mid-tier banks, which range from 'bb-' to 'b'. The Viability Ratings reflect different degrees of intrinsic strength, which is affected by the banks' perceived risk appetite and ability to absorb risks; the level and pace of financial system credit growth; transparency and corporate governance issues; an evolving regulatory framework; and the nascent legal system.

System-wide provision buffers have fallen, with the average provision coverage ratio for joint-stock banks declining to 179% at end-June 2016 (218% at end-2014) and approaching the 150% regulatory minimum, even though the banks have made new provisions and disposed of NPLs. The need to comply with higher capital buffers at a time of weakening profitability has put pressure on the six mid-tier banks' capital.

Fitch's analysis of Chinese banks' asset-quality places greater emphasis on loss-absorption capacity, which includes factors such as capitalisation, loan-loss reserve coverage and profitability, than data on loan classifications. Fitch estimates the six mid-tier banks had varying levels of loss-absorption buffers, ranging from around 2%-7% of credit based on end-2015 data (average: around 4%), compared with an average of 7.9% for state banks. This shows most of the six mid-tier banks can withstand less deterioration in their buffers relative to the state banks before some form of remedial action would be likely to be required to restore capital to a sustainable level. However, recognition of asset impairment is likely to be a protracted process as authorities often encourage support for troubled counterparties. Delinquencies are likely to continue eroding liquidity and cash buffers in the meantime, as inflows from distressed borrowers remain weak and more resources are directed at forbearance and support.

The raising, or planned raising, of additional capital in 2016 at some mid-tier banks should help increase their risk buffers, provided there is no acceleration in growth. Fitch took into account situations where capital had been raised by banks to offset rapid growth and maintain loss-absorption capacity at levels in line with similarly rated peers.

RATING SENSITIVITIES

IDRS, SUPPORT RATINGS AND SUPPORT RATING FLOORS

[The banking system's continued rapid growth, combined with the rise in non-bank credit extension, means potential claims on the state are increasing. Pressures will build on the banks' Issuer Default Ratings (IDR) if Fitch perceives the state's ability to support the banking sector is undermined by the increasing size of the financial system. Chinese authorities have not yet provided any clear guidance on the classification of domestic systemically important banks - such guidance could lead to changes in the Support Ratings, Support Rating Floors and, in turn, the banks' IDRs. Fitch expects the state's propensity to support the banking sector to remain high over the near-term and extremely high for systemically important banks.

Significant changes to the sector's liability structure, which results in increasing the banks' reliance on wholesale or offshore funding (that is, when the system loan/deposit ratio reaches over 100%), may affect the state's willingness to support the entire financial system - especially less systemically important banks - in the longer-term, including resolving the rising stock of problem assets. A reduction in state-ownership of the six mid-tier banks, either directly or indirectly through local governments or state-owned-enterprises, may also negatively affect the propensity of the state to support these banks if the reduction is significant and lowers state influence.

VIABILITY RATINGS

Fitch assesses that excessive growth, particularly in wealth-management product (WMP) issuances, investments in receivables and non-loan credit, may render capital more vulnerable to deterioration beyond what is implied by the current rating levels. There has been notable growth in WMPs by five of the mid-tier banks in 2015 (China Guangfa Bank does not disclose information about its WMP activities) and this has continued into 1H16, albeit at a slower pace. The magnitude of growth in WMP issuance and investment in "non-standard" assets over the past year indicates the banks' risk appetite is increasing. Growth that is not managed prudently and is accompanied by a build-up of additional buffers can become a key source of credit and liquidity risk, creating downward pressure on Viability Ratings.

Similarly, downgrades to Viability Ratings are possible if concentrations in exposures increase relative to peers; if deterioration in asset-quality begins to undermine solvency; or if severe deposit migration or reliance on WMPs leads to greater funding and liquidity strains. The sector benefits from a degree of ordinary support from Chinese authorities, most notably in the form of market liquidity injections and aid for financially troubled borrowers, but major disruptions in the issuance of WMPs, quasi-substitutes for time deposits or interbank market distress could lead to Viability Rating downgrades.

Viability Rating upgrades for China's mid-tier banks are possible if Fitch believes the operating environment has stabilised, if not improved. This would likely be evidenced from the pace of loan and non-loan credit growth further slowing to more sustainable levels, stronger regulation contributing to less off-balance-sheet activity or it being less of a concern and more transparent, greater confidence that reported asset-quality ratios will hold, the banks improving their loss-absorption capacities or strengthening their deposit funding and liquidity. Further development in the country's financial markets would also help lower existing financing and asset-quality burdens in the banking system and support eventual deleveraging of the economy.

The rating actions are as follows:

Industrial Bank Co., Ltd

-Long-Term Foreign-Currency IDR affirmed at 'BB+'; Stable Outlook