HONG KONG, 17 June 2020. Pengyuan International has assigned a first-time global-scale long-term issuer credit rating (LTICR) of ‘A+’ and a short-term issuer credit rating (STICR) of ‘A-1’ to China Construction Bank Corporation (CCB) with a Stable Outlook.
The rating incorporates a standalone credit profile (SACP) of ‘bbb+’, which reflects the bank’s well-established franchise, robust capitalization and strong liquidity coverage. While the outlook for the remainder of 2020 will continue to be challenging, we believe CCB’s credit profile will likely remain within our expectations for the current rating category. In addition, we are of the view that the Chinese government (‘AA’/Stable) has a very strong willingness to support CCB’s senior unsecured creditors in times of need, given the bank’s ownership structure, systemic importance to the financial system, and critical quasi-policy role.
These strengths are partially offset by the slowdown in the economy, which is still reeling from the impacts of COVID-19. We are also increasingly concerned about the potential pickup in special-mention loans (SMLs) and their migration to non-performing loans (NPLs) over the next 12 to 18 months. Furthermore, the falling loan prime rate will put considerable pressure on pre-provision profits, with net interest margin forecast to fall by around 15 basis points over 2020 and 2021.
The Stable Outlook reflects our view that CCB will remain a systemically important bank in both a domestic and global context in the foreseeable future. As such, we believe the Chinese government will continue to have a high propensity to provide emergency funding in high-stress scenarios.
We would consider a downgrade if we believe the government’s willingness to support CCB shows signs of weakening – which may be reflected by a material change in ownership or public policy – or if China’s foreign-currency LTICR is downgraded.
We would consider an upgrade if China’s foreign-currency LTICR is upgraded, although we believe that there is a relatively low likelihood of that happening in 2020 and 2021, in view of the macro headwinds domestically and abroad.
KEY RATING RATIONALE
Credit Strengths
Strong Franchise. CCB has a strong domestic franchise, as reflected by its significant deposit base and extensive relationships with corporate and individual clients. The bank is the second largest in the world by total assets and has been designated by the Financial Stability Board as a global systemically important bank (G-SIB) since 2015. While CCB’s international presence is somewhat limited compared to its global peers, it has a sizable operation in Hong Kong, which provides the bank with the capability to handle cross-border trade and investment activities.
Robust Financial Profile. CCB compares favorably with its local and international peers in terms of its return on assets (ROA), return on equity (ROE) and capital adequacy ratios. Although we expect the bank’s ROA and ROE to trend down considerably from 2020 to 2022, its common-equity tier-1 (CET-1) ratio will likely remain close to 14% over this period. In our view, this will give the bank a much-needed buffer as it navigates a challenging operating environment. In addition, the bank reported a liquidity coverage ratio of 154.8% as at end-2019, which is well above its peer average.
Relatively Benign Liquidity Environment. Our expectation is for the liquidity environment to remain benign in 2020-2021, resulting from the central bank’s moderately accommodative monetary policy. CCB’s substantial deposit base remains a key competitive advantage, in our view. In addition, we believe CCB will maintain a strong ability to raise wholesale funding as required, although its equity financing capability is somewhat impaired by its current low valuation.
Very Strong Willingness of the Chinese Government to Provide Extraordinary Support. In our view, CCB’s long-term strategy is closely aligned with the central government’s social and economic objectives. This is evident from the bank’s contribution to efforts such as micro finance and the development of the Greater Bay Area. This strategic positioning and the bank’s ownership and management structure inform our view that the government has a very strong incentive to provide liquidity and capital support in times of need. CCB’s systemic importance also suggests that its potential failure may be detrimental to the stability of the domestic and global financial systems.
Credit Weaknesses
Challenging Earnings Outlook. We believe 2020-2021 will prove to be a difficult period in terms of internal capital formation. This may result from the combination of net interest margin contraction as yields fall, a pickup in NPL formation, and more stringent provisioning requirements under IFRS-9, which requires that the banks set aside reserves on a more proactive and forward-looking basis. Consequently, we anticipate that the bank’s ROA and ROE will trend down to below 1% and around 11% respectively in the next two years. Partially mitigating this factor is the bank’s relatively prudent dividend policy at around 30% of earnings a year.
Aggressive NPL Recognition Practices. While we recognize that CCB has taken consistent efforts to clean up its loan book via write-downs and NPL sales since 2008, we are somewhat concerned about the bank’s NPL recognition and provisioning practices. In particular, we view an annual migration rate from the SML category to NPLs in the range of 15% to be high. This may suggest that the bank is under-provisioned in the current environment and that in the post-IFRS-9 era, credit costs may see an unexpected spike in the coming years.
Note: Ratings mentioned in this press release are unsolicited ratings.
ANALYST CONTACTS
Primary Analyst
Stanley Tsai, CFA
+852 3615 8340
Secondary Analyst
Ke Chen, PhD
+852 3615 8316
Committee Chair
Tony Tang
+852 3615 3278
Data of Relevant Rating Committee: 3 June 2020
MEDIA ENQUIRIES
Charley Lui
+852 3615 8296
RATING SERVICES ENQUIRIES
Gloria Song
+852 3615 8324
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Unsolicited ratings – non-participative rating – not disclosed
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