Midsize Lenders Set to Stand Out in Latest Reserve-Rate Cut

Midsize Chinese banks will likely benefit most from the central bank’s latest targeted cut in the reserve requirement ratio (RRR), although the policy likely won’t significantly change the loan profile of the overall banking industry, analysts say.

To encourage more lending to the disadvantaged population, college students and small businesses, commercial banks will be allowed to set aside less cash as reserves after meeting certain targets beginning next year. Each bank’s RRR will be cut by 0.5 percentage point, from the current range of 13.5% to 17.0%, if at least 1.5% of its new loans are extended to those less-creditworthy borrowers. A deeper cut of RRR by 1.5 percentage point will kick in if that ratio is at least 10%.

Morgan Stanley projects that about 300 billion yuan ($45.3 billion) of cash could be freed from reserves when the RRRs are cut next year, while Northeast Securities pegs a range of 300 billion to 450 billion yuan. As funds could be invested in higher-return areas to improve banks’ net interest margin and noninterest income, analysts believe that could be particularly helpful to midsize banks whose profitability has been squeezed hard by tighter regulations and rising funding costs in the interbank market.

Expectations of improving profitability due to lower RRRs have sent banking stocks higher. On Monday and Tuesday, the first trading days after the RRR news — which came ahead of the weeklong National Day holiday — midsize banks such as Industrial Bank of China and Ping An Bank gained 2.95% and 3.24% respectively. The benchmark Shanghai Composite Index also rose as much as 1.62% to a 21-month high on Monday morning above the key level of 3,400 points, and extended gains on Tuesday by 0.26%.

The central bank’s announcement said the RRR cut will benefit all large and midsize national banks, most of the urban commercial lenders that focus on local loans, and 95% of rural banks.

Li Yong, a banking analyst at Northeast Securities Co., pointed out in his recent research note that midsize banks — including China Citic Bank, Industrial Bank of China and China Minsheng Bank — will stand to benefit most from the RRR cut.

Ma Kunpeng, an analyst at China Merchants Securities Co., added: “The cut sends the banking industry a clearer message on liquidity and regulatory policies.”

Ma predicted an increase of 0.08 to 0.28 percentage point of net interest margin, a key profitability metric that measures the difference between a bank’s income from lending and its funding costs. “The cut will particularly boost banks with improving fundamentals and those not subjected to tightened liquidity amid the regulatory clampdown,” he said.

Despite the added breathing room, Moody’s Investors Service said the policy won’t likely significantly change the lending patterns and operating environment for banks in China.

Senior analyst Nicholas Zhu said that what matter most to banks are still the regulatory environment and the country’s monetary policy. The impact of the cut on the industry’s overall loan profile is likely limited, as slower growth of mortgage loans and rising corporate loans are set to dominate loan allocation for most listed lenders, Zhu said.

The current regulatory environment is “a credit positive for banks as it relieves strains on capital and funding positions. Lower profitably is more likely for banks that have relied on market funds to support the previous phase of asset expansion,” Zhu said.

Some midsize banks saw lower profitability in the first half of this year as their interbank activities dropped amid a national campaign to squeeze out financial misdeeds by clamping down the interbank market. Large banks were better positioned from the higher funding cost as they are less dependent on interbank funding than the smaller ones are.

For the 16 listed banks accounts for 70% of the total assets in Chinese commercial banks, mortgage loans contributed 36.5% to their total new yuan loans in the first half, shrinking from 57.5% in the full year of 2016. The proportion of corporate loans rebounded to 45.7% of new yuan loans in the first six months of 2017, up from a yearly average of 30.8% in 2016 as the economy stabilized.

Contact reporter Leng Cheng (chengleng@caixin.com)