In Depth: Why China’s Banks Are Stock Market Darlings — for Now

In 2024, China's bank stocks surged as investors were attracted by the high dividends and low valuations in contrast to the broader sluggish economy and credit concerns. The banking sector showed remarkable growth, defying its previous status as a lackluster performer due to investors' focus on dividends, which are akin to corporate bonds given their low volatility and stable payouts [para. 1][para. 3][para. 4]. Large institutional investors, such as insurance and bank wealth management funds, shifted their investments away from government bonds to bank stocks to diversify risks, drawn by the higher yields which were double or triple that of Chinese government bonds (CGBs) [para. 2][para. 4].

Despite concerns about the banking sector's weak profit growth, rising nonperforming loans, and declining net interest margins (NIMs), investors turned to bank stocks for their stable dividend payouts due to declining yields on CGBs. The People's Bank of China (PBOC) had been reducing interest rates to encourage lending, causing the yield on 10-year CGBs to drop under 1.7% by the end of the year [para. 5][para. 5][para. 7][para. 8]. Consequently, investors sought alternative low-risk, income-generating assets, making bank stocks popular for their quasi-fixed-income traits – primarily high dividend yields [para. 10][para. 11].

The bank stocks' performance was marked by significant increases in share prices, with Bank of Shanghai, Shanghai Rural Commercial Bank, and others seeing jumps exceeding 60%. Even the state-owned "Big Six" banks reached record share price highs [para. 6][para. 8]. Although the fundamentals such as revenue and net profit growth were not impressive, bank stocks offset these concerns through high dividends and increased payout ratios, which went up to 29.3% in 2023, as the government pushed for enhanced dividend payments [para. 14][para. 15][para. 16][para. 18].

The bullish sentiment in bank stocks is not without risks. The sustainability of this rally hinges on several factors: economic cycles, risk perceptions, and inherent systemic vulnerabilities. While China's economic policies continue to support a moderately loose monetary environment, there remains uncertainty about how these will influence investor behavior and asset allocation in the quest for high-certainty assets like CGBs and dividend-yielding bank stocks [para. 22][para. 23][para. 24]. Concurrently, risks related to credit issuance constraints, narrowing NIMs, and potential credit exposures persist due to factors like the slow recovery in the retail and consumer sectors [para. 28][para. 30].

Price-to-book ratios for Chinese banks remain low, reflecting ongoing investor caution about underlying risks, including undisclosed exposures or losses from trading activities. As of the end of 2024, these ratios – indicators of stock valuation – were still less than 1, illustrating the caution investors exhibit towards banking stocks despite high dividends. The situation is compounded by pressures like government intervention to boost credit, subdued borrowing appetites, and defensive financial strategies by banks amid a challenging economic landscape [para. 35][para. 37][para. 39][para. 42].