News that Country Garden – the longtime leader in contracted sales of new homes in China – suffered a 96% drop in first-half profits is confirmation of the firestorm ripping through the property sector.
Fortunately, the flames haven’t engulfed China’s leading lenders. All of the major state banks released their first-half results late last month and there was no sign (yet) of an existential threat to their sector.
Not that the mood wasn’t a little downbeat, with Wang Jingwu, vice president of ICBC, the world’s largest commercial lender by assets, acknowledging the “complex and grim” operating environment. And admittedly, there was some damage as a result of bad loans to the property sector. China Construction Bank (CCB) and Bank of China (BoC) have reported a 68% and 20% increase in bad debt from real estate clients in the first half of this year, while ICBC posted a 15% increase in soured loans over the same period.
Yet despite the deterioration, bad loans to the sector are still at manageable levels. Except for Bank of China, the overall ratio of non-performing loans on the banks’ books even fell over the period, because levels of bad debt in other industries were reduced or held steady.
That’s an unexpectedly impressive performance at a time when the Chinese economy has slowed markedly. All of the main state lenders, plus Agricultural Bank of China, reported increases in net profit of between 5% and 6% for the first half of the year versus the same period in 2021, the Chinese media noted. And there was more good news from the China Banking and Insurance Regulatory Commission earlier in the month, when it announced that coverage ratios (in which the banks set aside funds to cover the potential losses from bad loans) also increased on the year, reaching 204%.
Pressure on the banks’ loan books is coming from two main sources: non-payment of personal housing loans from homeowners, often because of so-called ‘mortgage strikes’; and loans that have been made directly to developers. The consensus is that mortgage strikes don’t pose a mortal threat to the biggest banks, despite reports of overdue payments on more than 1,100 projects around the country. In a base case where 20% of unfinished projects by distressed developers are delayed, refusals to make mortgage payments could affect Rmb974 billion of lending, according to ratings analysts at S&P. That makes up about 2.5% of China’s mortgage loans, or 0.5% of total loans, the rating agency estimated last month.
“Falling residential prices would give homebuyers a big incentive to walk away from their purchase,” Yiran Zhong, director of financial institutions ratings, acknowledged. But he said that people would think twice about defaulting, because of the impact on their credit ratings.
Perhaps the greater danger, as far as China’s banking bosses are concerned, is that they are going to be instructed to do more to mitigate the crisis. Liu Jin at BoC said as much at a press conference last month, with comments that the State Council and regulators are pushing the bigger banks to increase lending to the property sector. All of this is happening at a time when the banks have had to lower their loan charges because of recent rate cuts by the central bank.
Perhaps banking bosses will try to counter some of the pressure from policymakers by pointing to the risks that the property slowdown could spread to other parts of the economy. That was the focus of a report from Fitch, another ratings agency, looking at other sectors that could be vulnerable to real estate’s troubles. The ‘bad banks’, or state-owned asset management companies set up to mop up soured assets from lenders, were one area of concern, because they hold assets backed by real estate-related collateral. Engineering and construction firms are also worth watching closely (especially non-state-owned outfits) because of a drying up in demand for their services.
The country’s smaller steel producers are another high-risk category for similar reasons (Fitch says construction accounts for 55% of steel demand in China). “Many have been operating at a loss for a few months and could face liquidity issues if China’s economy remains lacklustre, especially given the high leverage in the sector,” the report added.
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