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Bank of China (3988)
26-04-2011, 11:18 AM. (This post was last modified: 23-10-2013, 02:30 PM by CityFarmer.)
Post: #1
Bank of China (3988)
I'm quite interested in studying the prospects of Chinese banks.
Buddies, please share your thoughts!

Below is an article that argue that the earnings are illusionary.


Chinese Banks†Illusory Earnings
Apr. 4 2011 - 2:05 am | 1,295 views | 1 recommendation | 0 comments
Posted by Patrick Chovanec

Over the past couple of days, Chinaâ€s “big four” state banks have reported impressive profit gains for 2010. Bank of China [3988.HK] posted a 29% increase in net earnings over 2009, China Construction Bank (CCB) [939:HK] saw a 26% boost, ICBCâ€s [1398:HK] profits came in 28% higher, while the newly-listed Agricultural Bank of China (AgBank) [1288:HK] reported an eye-catching 46% rise in profits. The Hong Kong market, which had been fairly sour on Chinese bank stocks earlier this year, apparently liked what it sees. Since last Mondayâ€s opening (March 21), ICBCâ€s stock price has risen by 8.6%, Bank of Chinaâ€s rose by 6.1%, AgBankâ€s rose by 7.0%, and CCBâ€s–despite falling short of even rosier analyst expectations–rose by 4.1%. All four stocks are significantly above the recent lows they hit in February.

So are these profit figures to be believed? Did Chinese banks really have such a stellar year in 2010? The short answer to both questions is NO.

Banks basically have two costs of doing business. The first is the cost of obtaining funds–usually the interest rate they pay to depositors. The second is the losses they sometimes sustain when their loans donâ€t get paid back. That second cost is very important, because if itâ€s not taken into account, banks would have every reason just to go out and make the riskiest loans possible to earn the highest return–the highest spread–over their cost of funds. Theyâ€d see extremely high profits for a while, until a big chunk of those loans failed and the losses piled up, swamping the earlier gains.

The cost of failed loans is actually part of the cost of making those loans in the first place. Thereâ€s no way to avoid some lending failures, and thereâ€s nothing wrong with making a risky loan if you charge a high enough interest rate to compensate for that risk, and still come out ahead in the end. To determine whether it really is coming out ahead or behind on the risks itâ€s taking, a bank tries to estimate what percentage of borrowers are likely to default (and what percentage itâ€s likely to recover if they do default), and charge that estimate as a loss at the time it first makes a loan. Itâ€s called a provision for bad debt. If the estimate is reasonably accurate, the resulting figures will give you a pretty good idea how profitable that bankâ€s lending business really is. If the loss estimates are too high or too low, you can get a very distorted picture of how the bank is truly performing.

The same is true for regular businesses, for that matter. The easiest way for a company to boost short-term revenues and profits is to start offering shaky customers easy terms of credit, no money down, no questions asked–and not take a higher charge against those sales to reflect the fact that a lot of those customers arenâ€t going to pay when the bill finally comes due. The profits are illusory, and investors who look to them are deceived.

This year, regulators required Chinese banks to maintain a reserve of 2.5% against the value of their total loan portfolios as provision for bad debt. This has been portrayed as a “rigorous” standard, compared to their minuscule rates of recognized nonperforming loans (NPLs) left over after Chinese banks spent more than a decade cleaning up their books, with the governmentâ€s help. Over the past two years, though, Chinese banks have engaged in a government-inspired stimulus lending binge that expanded their lending books by 58%. So much money was lent so quickly that Chinese bank regulators spent the better part of 2010 just figuring out where it all went. A 2.5% charge may sound impressive, compared to the tiny number of older loans that Chinese banks havenâ€t been able to work out, but during the last, similar round of ”policy” lending that took place in the 1990s, about 35% (thirty-five, thereâ€s no decimal point there) of all the loans that were made went bad, with around a 20% post-default recovery rate.

There are many areas of recent lending–mortgages, real estate development loans, emergency working capital loans to keep failing exporters from going under, business loans diverted to stock and real estate speculation, business loans collateralized by land at inflated valuations–that give cause for concern. But it is loans made to Local Government Financing Vehicles (LGFVs), special companies set up to fund ambitious and often redundant infrastructure projects, that have attracted the greatest attention. At first, Chinaâ€s banking regulators brushed aside concerns–these were, after all, government-sponsored projects–but later came to view these loans with growing alarm. A comprehensive study leaked last summer from the China Banking Regulatory Commission (CBRC) suggested that only 27% of these loans could be repaid through cash flows; 23% were a total, irretrievable loss, and about 50% would have to be repaid “through other means,” presumably by calling on local government guarantees (which those governments lack the wherewithal to stand behind) or by seizing the undeveloped land pledged as collateral (appraised, all too often, at ridiculously inflated prices).

So letâ€s run some back-of-the-envelope numbers, based on what we know. A couple days ago, the Chairman of ICBC announced that LGFV loans accounted for 10% of his bankâ€s total loan book. He made this announcement in order to reassure everyone that ICBC and the other banks have the situation completely under control:

“It is important that people pay attention to this problem and we should be alert to the risks,” Mr Jiang said. “[But] I donâ€t believe this problem poses a systemic risk to the Chinese banking system.”

ICBC reported a pre-tax profit of 215 billion yuan ($32.6 billion) in 2010, including a 28 billion yuan ($4.2 billion) charge for expected loan losses. That charge brought ICBCâ€s cumulative bad debt provision–its reserve against future NPLs–to 167 billion yuan ($25.3 billion), just under 2.5% of the value of its entire loan book, which stood at 6.8 trillion yuan (a little over $1 trillion) at the end of 2010.

ICBCâ€s chairman says that it made 640 billion yuan ($97.0 billion) in post-crisis LGFV loans, over the past two years. If we go by the estimates compiled by the CBRC, roughly 23% of these loans are just out-and-out non-recoverable, which in ICBCâ€s case equates to 147 billion yuan ($22.3 billion). Another 50% can be repaid only through alternative means (by seizing collateral, for example) and must be seen as questionable. That equates to another 320 billion yuan ($48.5 billion). Over that same two-year period, ICBC made provision for 51 billion yuan ($7.7 billion) in loan losses (23 billion yuan in 2009 and 28 billion yuan in 2010).

If we look only at the LFGV loan category, and generously assume that all of the new bad debt provisions applied to LGFV loans, the results are striking. Even if only the LGFV losses that are virtually dead certain are counted (Scenario A-1 below), ICBC is understating its likely losses by 96 billion yuan ($14.5 billion). Its cumulative bad debt allowance should be 263 billion yuan ($39.8 billion), 58% higher than reported. If that correction was applied in 2010, the bankâ€s pre-tax profit would shrink to 119 billion yuan ($18.0 billion), down 29% from 167 billion yuan in 2009.

(Click here to expand and view the above chart in its original, more readable size.)

Letâ€s assume, in addition, an effective recovery rate of only 50% on the dubious repayments “through other means” (Scenario A-2). That would require a boost in ICBCâ€s bad debt reserves to 423 billion yuan ($64.1 billion), 2.5 times the reported figure. Taking this additional charge would create a pre-tax loss of 41 billion yuan ($6.2 billion) for 2010, and wipe out about one-third of the bankâ€s equity capital cushion.

Due to several highly profitable years, ICBC reported equity capital (assets net liabilities) of 822 billion yuan ($125 billion) at the end of 2010. If all of the bankâ€s “lost cause” and “repay by other means” LGFV loans (a total of 467 billion yuan, or $70.8 billion) were charged as a provisional loss (Scenario A-3, which might reasonable if youâ€re going to be forced to seize relatively illiquid collateral to try to make good on the loan), it would change ICBCâ€s 215 billion yuan ($32.6 billion) pre-tax profit for 2010 into 201 billion yuan ($30.4 billion) pre-tax loss and wipe out over half of the bankâ€s equity capital.

ICBCâ€s management might reply that their LGFV loan portfolio is stronger than average, since one of Chinaâ€s largest banks might be able to cherry-pick only the best local government projects to lend to. Perhaps–although so much money was flowing out the door I doubt they, or anyone else, had time to make certain. Keep in mind, though, that this is just one category of lending that is generating worry. Weâ€re assuming a 100% performance rate for all the other scary kinds of lending I mentioned earlier–an assumption that is as unrealistic as it is generous.

So letâ€s assume that this round of expansive policy lending fares much better than the last one, and just 10% of the 2.2 trillion yuan in net new lending that ICBC made over the past two years goes bad (Scenario B-1). Thatâ€s 222 billion yuan ($33.6 billion) in loan losses, more than four times the loss provisions ICBC actually made during that period. The 171 billion yuan ($25.9 billion) additional charge would reduce ICBCâ€s 2010 pre-tax profit by a factor of almost five to 44 billion yuan ($6.7 billion), erasing about one-fifth of its reported equity capital.

If you raise the projected NPL rate to 20% (Scenario B-2, a very reasonable estimate given both history and the more recent LGFV estimates coming from regulators), the bank registers a 178 billion yuan ($27.0 billion) pre-tax loss for 2010, destroying almost half of its capital cushion. Apply the 35% rate from last time around–hopefully not the case, but not out of the question either–and ICBC begins flirting with the prospect of insolvency (Scenario B-3).

A reporter yesterday asked me why, knowing what they know about LGFVs and other troubled lending areas, the regulators donâ€t just require Chinaâ€s banks to recognize loan loss provisions higher than 2.5%. I could only think of that exchange between Tom Cruise and Jack Nicholson in A Few Good Men: “I want the truth!” “You canâ€t handle the truth!” Maybe Chinaâ€s banking regulators prefer to shield investors and other market participants from the harsh truth while they figure out how to solve the problem. However, the truth–whether investors can handle it or not–is pretty easy to calculate based on readily available information. Itâ€s entirely possible that the scenarios Iâ€ve outlined are too pessimistic–but itâ€s not obvious that they are. The various assumptions Iâ€ve used are reasonable enough that I think youâ€d have to make a case for why they are wrong.

Optimists will counter that, even if ICBC and the other banks suffer destabilizing losses, the “big four” are all state-owned, and the Chinese government would almost certainly step in and bail them out. That may well be true. But thereâ€s a big difference between making that kind of “failing but too big to actually fail” argument and accepting the claims–put forward in their latest financial statements–that Chinaâ€s banks are sitting pretty and awash in profits.

Find Reply
01-06-2013, 10:40 PM.
Post: #2
RE: Bank of China
At the end of the day, there is too little transparency, it really comes down to either you believe them or you don't.

Looking back to their old FS, before the government bail them (all the major banks) out in the last crisis which led to their IPO, you cant really tell they are in trouble from the past data as well.


(26-04-2011, 11:18 AM)Thriftville Wrote: I'm quite interested in studying the prospects of Chinese banks.
Buddies, please share your thoughts!

Below is an article that argue that the earnings are illusionary.


Chinese Banks†Illusory Earnings
Apr. 4 2011 - 2:05 am | 1,295 views | 1 recommendation | 0 comments
Posted by Patrick Chovanec

Over the past couple of days, Chinaâ€s “big four” state banks have reported impressive profit gains for 2010. Bank of China [3988.HK] posted a 29% increase in net earnings over 2009, China Construction Bank (CCB) [939:HK] saw a 26% boost, ICBCâ€s [1398:HK] profits came in 28% higher, while the newly-listed Agricultural Bank of China (AgBank) [1288:HK] reported an eye-catching 46% rise in profits. The Hong Kong market, which had been fairly sour on Chinese bank stocks earlier this year, apparently liked what it sees. Since last Mondayâ€s opening (March 21), ICBCâ€s stock price has risen by 8.6%, Bank of Chinaâ€s rose by 6.1%, AgBankâ€s rose by 7.0%, and CCBâ€s–despite falling short of even rosier analyst expectations–rose by 4.1%. All four stocks are significantly above the recent lows they hit in February.

So are these profit figures to be believed? Did Chinese banks really have such a stellar year in 2010? The short answer to both questions is NO.

Banks basically have two costs of doing business. The first is the cost of obtaining funds–usually the interest rate they pay to depositors. The second is the losses they sometimes sustain when their loans donâ€t get paid back. That second cost is very important, because if itâ€s not taken into account, banks would have every reason just to go out and make the riskiest loans possible to earn the highest return–the highest spread–over their cost of funds. Theyâ€d see extremely high profits for a while, until a big chunk of those loans failed and the losses piled up, swamping the earlier gains.

The cost of failed loans is actually part of the cost of making those loans in the first place. Thereâ€s no way to avoid some lending failures, and thereâ€s nothing wrong with making a risky loan if you charge a high enough interest rate to compensate for that risk, and still come out ahead in the end. To determine whether it really is coming out ahead or behind on the risks itâ€s taking, a bank tries to estimate what percentage of borrowers are likely to default (and what percentage itâ€s likely to recover if they do default), and charge that estimate as a loss at the time it first makes a loan. Itâ€s called a provision for bad debt. If the estimate is reasonably accurate, the resulting figures will give you a pretty good idea how profitable that bankâ€s lending business really is. If the loss estimates are too high or too low, you can get a very distorted picture of how the bank is truly performing.

The same is true for regular businesses, for that matter. The easiest way for a company to boost short-term revenues and profits is to start offering shaky customers easy terms of credit, no money down, no questions asked–and not take a higher charge against those sales to reflect the fact that a lot of those customers arenâ€t going to pay when the bill finally comes due. The profits are illusory, and investors who look to them are deceived.

This year, regulators required Chinese banks to maintain a reserve of 2.5% against the value of their total loan portfolios as provision for bad debt. This has been portrayed as a “rigorous” standard, compared to their minuscule rates of recognized nonperforming loans (NPLs) left over after Chinese banks spent more than a decade cleaning up their books, with the governmentâ€s help. Over the past two years, though, Chinese banks have engaged in a government-inspired stimulus lending binge that expanded their lending books by 58%. So much money was lent so quickly that Chinese bank regulators spent the better part of 2010 just figuring out where it all went. A 2.5% charge may sound impressive, compared to the tiny number of older loans that Chinese banks havenâ€t been able to work out, but during the last, similar round of ”policy” lending that took place in the 1990s, about 35% (thirty-five, thereâ€s no decimal point there) of all the loans that were made went bad, with around a 20% post-default recovery rate.

There are many areas of recent lending–mortgages, real estate development loans, emergency working capital loans to keep failing exporters from going under, business loans diverted to stock and real estate speculation, business loans collateralized by land at inflated valuations–that give cause for concern. But it is loans made to Local Government Financing Vehicles (LGFVs), special companies set up to fund ambitious and often redundant infrastructure projects, that have attracted the greatest attention. At first, Chinaâ€s banking regulators brushed aside concerns–these were, after all, government-sponsored projects–but later came to view these loans with growing alarm. A comprehensive study leaked last summer from the China Banking Regulatory Commission (CBRC) suggested that only 27% of these loans could be repaid through cash flows; 23% were a total, irretrievable loss, and about 50% would have to be repaid “through other means,” presumably by calling on local government guarantees (which those governments lack the wherewithal to stand behind) or by seizing the undeveloped land pledged as collateral (appraised, all too often, at ridiculously inflated prices).

So letâ€s run some back-of-the-envelope numbers, based on what we know. A couple days ago, the Chairman of ICBC announced that LGFV loans accounted for 10% of his bankâ€s total loan book. He made this announcement in order to reassure everyone that ICBC and the other banks have the situation completely under control:

“It is important that people pay attention to this problem and we should be alert to the risks,” Mr Jiang said. “[But] I donâ€t believe this problem poses a systemic risk to the Chinese banking system.”

ICBC reported a pre-tax profit of 215 billion yuan ($32.6 billion) in 2010, including a 28 billion yuan ($4.2 billion) charge for expected loan losses. That charge brought ICBCâ€s cumulative bad debt provision–its reserve against future NPLs–to 167 billion yuan ($25.3 billion), just under 2.5% of the value of its entire loan book, which stood at 6.8 trillion yuan (a little over $1 trillion) at the end of 2010.

ICBCâ€s chairman says that it made 640 billion yuan ($97.0 billion) in post-crisis LGFV loans, over the past two years. If we go by the estimates compiled by the CBRC, roughly 23% of these loans are just out-and-out non-recoverable, which in ICBCâ€s case equates to 147 billion yuan ($22.3 billion). Another 50% can be repaid only through alternative means (by seizing collateral, for example) and must be seen as questionable. That equates to another 320 billion yuan ($48.5 billion). Over that same two-year period, ICBC made provision for 51 billion yuan ($7.7 billion) in loan losses (23 billion yuan in 2009 and 28 billion yuan in 2010).

If we look only at the LFGV loan category, and generously assume that all of the new bad debt provisions applied to LGFV loans, the results are striking. Even if only the LGFV losses that are virtually dead certain are counted (Scenario A-1 below), ICBC is understating its likely losses by 96 billion yuan ($14.5 billion). Its cumulative bad debt allowance should be 263 billion yuan ($39.8 billion), 58% higher than reported. If that correction was applied in 2010, the bankâ€s pre-tax profit would shrink to 119 billion yuan ($18.0 billion), down 29% from 167 billion yuan in 2009.

(Click here to expand and view the above chart in its original, more readable size.)

Letâ€s assume, in addition, an effective recovery rate of only 50% on the dubious repayments “through other means” (Scenario A-2). That would require a boost in ICBCâ€s bad debt reserves to 423 billion yuan ($64.1 billion), 2.5 times the reported figure. Taking this additional charge would create a pre-tax loss of 41 billion yuan ($6.2 billion) for 2010, and wipe out about one-third of the bankâ€s equity capital cushion.

Due to several highly profitable years, ICBC reported equity capital (assets net liabilities) of 822 billion yuan ($125 billion) at the end of 2010. If all of the bankâ€s “lost cause” and “repay by other means” LGFV loans (a total of 467 billion yuan, or $70.8 billion) were charged as a provisional loss (Scenario A-3, which might reasonable if youâ€re going to be forced to seize relatively illiquid collateral to try to make good on the loan), it would change ICBCâ€s 215 billion yuan ($32.6 billion) pre-tax profit for 2010 into 201 billion yuan ($30.4 billion) pre-tax loss and wipe out over half of the bankâ€s equity capital.

ICBCâ€s management might reply that their LGFV loan portfolio is stronger than average, since one of Chinaâ€s largest banks might be able to cherry-pick only the best local government projects to lend to. Perhaps–although so much money was flowing out the door I doubt they, or anyone else, had time to make certain. Keep in mind, though, that this is just one category of lending that is generating worry. Weâ€re assuming a 100% performance rate for all the other scary kinds of lending I mentioned earlier–an assumption that is as unrealistic as it is generous.

So letâ€s assume that this round of expansive policy lending fares much better than the last one, and just 10% of the 2.2 trillion yuan in net new lending that ICBC made over the past two years goes bad (Scenario B-1). Thatâ€s 222 billion yuan ($33.6 billion) in loan losses, more than four times the loss provisions ICBC actually made during that period. The 171 billion yuan ($25.9 billion) additional charge would reduce ICBCâ€s 2010 pre-tax profit by a factor of almost five to 44 billion yuan ($6.7 billion), erasing about one-fifth of its reported equity capital.

If you raise the projected NPL rate to 20% (Scenario B-2, a very reasonable estimate given both history and the more recent LGFV estimates coming from regulators), the bank registers a 178 billion yuan ($27.0 billion) pre-tax loss for 2010, destroying almost half of its capital cushion. Apply the 35% rate from last time around–hopefully not the case, but not out of the question either–and ICBC begins flirting with the prospect of insolvency (Scenario B-3).

A reporter yesterday asked me why, knowing what they know about LGFVs and other troubled lending areas, the regulators donâ€t just require Chinaâ€s banks to recognize loan loss provisions higher than 2.5%. I could only think of that exchange between Tom Cruise and Jack Nicholson in A Few Good Men: “I want the truth!” “You canâ€t handle the truth!” Maybe Chinaâ€s banking regulators prefer to shield investors and other market participants from the harsh truth while they figure out how to solve the problem. However, the truth–whether investors can handle it or not–is pretty easy to calculate based on readily available information. Itâ€s entirely possible that the scenarios Iâ€ve outlined are too pessimistic–but itâ€s not obvious that they are. The various assumptions Iâ€ve used are reasonable enough that I think youâ€d have to make a case for why they are wrong.

Optimists will counter that, even if ICBC and the other banks suffer destabilizing losses, the “big four” are all state-owned, and the Chinese government would almost certainly step in and bail them out. That may well be true. But thereâ€s a big difference between making that kind of “failing but too big to actually fail” argument and accepting the claims–put forward in their latest financial statements–that Chinaâ€s banks are sitting pretty and awash in profits.
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Finding the Value in a Speculative World

http://www.valueinvestasia.com
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02-06-2013, 01:34 PM.
Post: #3
RE: Bank of China
If you think about it: ANY loan can be made viable if you extend the maturity (think centennial bonds), lower the interest rate (think zeros), or non payment of principals (rollovers or CB)

"Problem" is of course the prisoners' dilemma. No lender wants to be the last one holding the ball when the music stops. That's why when times are good no body bother. but when times are bad, cash calls come almost collectively if one calls

Plus if you able to grow loan growth, hence enlarge the denominator, your NPL ratio will go down. That's the mathematical advantage of developing nation banks
=========== Signature ===========
Before you speak, listen. Before you write, think. Before you spend, earn. Before you invest, investigate. Before you criticize, wait. Before you pray, forgive. Before you quit, try. Before you retire, save. Before you die, give. –William A. Ward

Think Asset-Business-Structure (ABS)

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02-06-2013, 02:39 PM.
Post: #4
RE: Bank of China
Remind me of Wall Street financial engineering starting out as re-mortgage your house with equity to 3rd, 4th, to sub-prime loan. From sub-prime loan sponding all sort of bond derivatives -securitised them and cross-securitised them. Wall Street even had synthetic sub-prime loan bond derivatives securitised when could not sub-prime loan to people fast enough. And Wall Street sold it to the World. One thing you must remember forever, credit analyst companies like "S&P" , Moody and Fitch without their participation, sub-prime loan fiasco could not have happen. Just beware. What's the "NEXT CHANGE"?

May 15, 2013
What Makes A Successful Investor:-
"I was always skeptical and curious and I never followed the crowd. I know that following the crowd is never a way to succeed in any field I can think of. So, no, no, if you do your own thinking, independent thinking, become skeptical, question everything and go against the crowd, you are probably going to be successful." - in a recent interview, answering a question about what made him a successful investor .
Who is he?
=========== Signature ===========
WB:-

1) Rule # 1, do not lose money.
2) Rule # 2, refer to # 1.
3) Not until you can manage your emotions, you can manage your money.

Truism of Investments.
A) Buying a security is buying RISK not Return
B) You can control RISK (to a certain level, hopefully only.) But definitely not the outcome of the Return.

NB:-
My signature is meant for psychoing myself. No offence to anyone. i am trying not to lose money unnecessary anymore.

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09-07-2019, 08:44 PM. (This post was last modified: 09-07-2019, 08:45 PM by dreamybear.)
Post: #5
RE: Bank of China (3988)
Wow, I wld have never imagined such a scenario ...

---------------------------------------------------------------------------------------------------------
Hong Kong protesters plan Bank of China 'stress test' after latest clashes
Updated: 08 Jul 2019 08:45PM

HONG KONG: Anti-government protesters in Hong Kong began circulating plans on Monday (Jul 8) to "stress test" the Bank of China in their bid to keep pressure on the city's pro-Beijing leaders, after six people were arrested in the latest clashes with police.....

One proposal going viral was a call to collectively withdraw funds from the Bank of China this Saturday to "stress test" the organisation's liquidity....

Read more at https://www.channelnewsasia.com/news/asi...l-11701350

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10-07-2019, 12:32 PM.
Post: #6
RE: Bank of China (3988)
Looks like HSBC stand to benefit

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