Bull and Bear: Chinese banks

For years, they have been saddled with non-performing loans, but the overall quality of loans on their books has started to improve.

“In China, like in the rest of the world, banks are now more confident to lend, which results in a rising demand in credit,” he said.

China’s regulators are expected to encourage banks’ lending by lowering the reserve requirement ratio, which currently stands at 17%.

This should help banks meet a growing demand for credit, and further dilute the effect of existing bad loans on their books.

On top of that, the expected interest rate increases, globally and in the region, should improve banks’ profit margins by raising their interest spreads.

While Chinese banks’ valuations are relatively low and they “ought to do quite well in a reflationary environment,” their long-term business prospects are less clear.

Chinese state-owned banks are “welfare mechanisms”, he said. “They take depositors’ money and lend it out to companies that purely on a commercial basis probably wouldn’t exist, or not exist at the levels of employment they have.”

As a long-term strategy, “it isn’t a fantastic business model”, he added.

For long-term strategic positioning, investors should look at financial institutions in China that have a consumer focus – providers of mortgage loans, car loans, household debt, etc.

Unfortunately, “there’s not a lot of those businesses around,” Horrocks said.