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Your Three Minutes In China Banks: Stimulus To Squeeze Interest Margins

The stimulus announced yesterday by China's central bank will likely squeeze Chinese banks. We believe the measures could strain lenders' net interest margins (NIMs) and mortgage quality.

The steps will test banks' management of funding costs and their underwriting ability, with some institutions likely to show lower profitability and diminished asset quality. This should be particularly apparent for regional banks in lower-tier cities due to their exposure to some of the country's weaker property markets.

What's happening

The central bank said it will cut interest rates on existing mortgages by 50 basis points (bps) on average, as part of a set of steps aimed at stimulating the economy.   The central bank could also further lower benchmark lending rates by 20 bps-25 bps. The cuts will squeeze banks' asset yield. However, a reduction in the reserve requirement ratio of at least 50 bps will reduce this effect at the margin.

In addition, downpayment requirements on second homes will be lowered to 15%, on par with those for first homes, from 25% previously.

Why it matters

We estimate on a static basis, these measures could reduce banks' NIM by about 20 bps.  This would hit Chinese lenders' returns on assets by about 14 bps. The average deposit rate would need to fall by about 25 bps to neutralize the impact.

On a dynamic basis, the mortgage measures could slow prepayments and reinvigorate investment demand. Mortgage loans are low-risk assets that consume less capital. The stabilization of banks' mortgage balances would help their capital ratios.

Meanwhile, Chinese banks have also been moderating loan growth and capital consumption to mitigate the hit on profitability from lower interest rates. Accordingly, we consider all these effects on banks' capital and earnings when assessing ratings.

What comes next

We expect banks to lower deposit rates to cushion the impact from lending rate cuts.  This could be challenging for some banks with a weaker deposit base, or lower funding and liquidity regulatory buffers.

  • The Chinese lenders are also likely to reduce mortgage downpayment ratios to increase low-risk assets on their balance sheets. This could stress their asset quality if housing prices continue to fall.
  • Having said that, we believe the unemployment rate, household income and household savings are more relevant than property prices in affecting residential mortgage loan performance.
  • Banks' underwriting ability will be tested, especially on second-home buyers in lower-tier cities (see "Your Three Minutes In China Bank Mortgages: Risks To Rise In Lower-Tier Cities," May 27, 2024).

Related Research

This report does not constitute a rating action.

Primary Credit Analyst:Ming Tan, CFA, Singapore + 65 6216 1095;
ming.tan@spglobal.com
Secondary Contact:Ryan Tsang, CFA, Hong Kong + 852 2533 3532;
ryan.tsang@spglobal.com

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