Chinese banks fail to impress in 2Q12

Quartely earnings results proved lackluster while overdue loan levels became increasingly worrying.

Here's more from Bernstein Research:

The Chinese banks reported their Q2 2012 earnings results over the past two weeks. While the banks generally beat market expectations, the market did not appear all that impressed with the results as each bank underperformed the local and regional indices during the earnings season. Investors were obviously concerned about the sharp 29% HoH increase in overdue loans while NPLs increased just 1%. While some of the increase was driven by seasonal factors, we do believe the credit cycle is begging to turn. We forecast NPL formation will accelerate in the second half, rising 16% HoH.

Despite the market's concerns on asset quality, we continue to believe the banks will not face an unmanageable increase to NPLs and should be able to earn their way through the credit cycle.

After the banks' Q2 earnings season, we continue to view the banks favorably though investors should recognize that profit growth will slow further as NIMs weaken due to recent interest rate cuts and reforms. While we do not forecast any for the remainder of this year, any further interest rate cuts would negatively impact the banks' bottom line (mainly via lower NIMs) but should help their valuations as investors generally become less concerned about the credit cycle in easing environments.

Given the uncertainty of the environment we prefer the larger banks to the smaller banks as we expect sharper NIM compression and NPL formation at the smaller banks. In particular, we recommend the banks with healthy liquidity and strong capital positions – ICBC & CCB, rated Outperform. We also rate Bank of China Outperform on attractive valuation and its foreign exposure which will limit the negative impact of interest rate reforms.

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