Political turmoil, trade war and slow growth mark 'end of era of
super profitability'
By Frances Yoon and Joanne Chiu
This article is being republished as part of our daily
reproduction of WSJ.com articles that also appeared in the U.S.
print edition of The Wall Street Journal (October 28, 2019).
For years, Hong Kong has been one of the world's most profitable
banking markets. That status is now under threat.
The city is a money-spinner for HSBC Holdings PLC, Standard
Chartered PLC, Bank of China (Hong Kong) Ltd. and others, such as
Bank of East Asia Ltd. and HSBC's local subsidiary, Hang Seng Bank
Ltd. It is lucrative in part because Hong Kong is a major financial
center, and handles a lot of business for mainland Chinese
clients.
Banks' profit per employee last year was higher in Hong Kong
than in any other market tracked by Citigroup analysts -- roughly
double the U.S. figure.
But now Hong Kong's economy is shrinking, hit by the U.S.-China
trade war, slowing Chinese growth and months of antigovernment
protests. Earlier this month, the city's chief executive, Carrie
Lam, said Hong Kong was in a "technical recession," typically
defined as at least two straight quarters of economic
contraction.
A weaker economy is likely to mean more loans going sour and
less credit demand from households and businesses.
Meanwhile, lending is becoming less profitable, as the city's
currency peg with the U.S. dollar forces it to match interest-rate
cuts by the Federal Reserve. Lower interest rates typically reduce
the margins banks earn, by narrowing the gap between the rates at
which they lend and borrow. To make things worse, there is new
competition from upstart online banks.
"It's the start of the end of an era of super profitability in
Hong Kong, " said Ronit Ghose, the Dubai-based global head of bank
research at Citigroup.
Quarterly results this week -- from HSBC on Monday and Standard
Chartered on Wednesday -- will give investors an early indication.
The two are both listed on the London Stock Exchange as well as in
Hong Kong.
The banks face other challenges, too. For HSBC, these include
uncertainty over the U.K.'s planned exit from the European Union
and trouble with officials in China, angry over its giving U.S.
prosecutors information about client Huawei Technologies Co.
But Hong Kong matters hugely: It provided roughly half of HSBC's
pretax profit in the second quarter.
For the third quarter, consensus forecasts compiled by HSBC
point to an 11% drop in net profit from a year earlier, to US$3.47
billion. Expected credit losses and other credit-impairment charges
are forecast to be up by nearly one-third, to US$673 million.
One focus for HSBC watchers will be cost-cutting plans, said
Gary Greenwood, a U.K.-based analyst at Shore Capital Group, since
the bank has pledged to increase revenue faster than costs this
year.
Now comes the virtual competition. The Hong Kong government this
year granted eight licenses for online banks, which won't need
physical branches. Backers include powerful technology companies --
among them Tencent Holdings Ltd. and Ant Financial, an affiliate of
Alibaba Group Holding Ltd. -- as well as such traditional lenders
as Bank of China (HK), Standard Chartered, and Industrial and
Commercial Bank of China Ltd.
Felix Lam, a portfolio manager at BNP Paribas Asset Management,
said traditional banks' defense of market share could lower fee
income and raise the cost of attracting new deposits.
Hang Seng, HSBC, and Standard Chartered will feel the most
pressure from stiffer competition in the retail market, Morgan
Stanley analysts wrote in a note to clients, since about half their
Hong Kong earnings come from retail.
Shares of Hong Kong-focused banks have underperformed the
broader Hong Kong market this year. HSBC trades at 0.91 times the
forecast book value of its assets, according to FactSet, below a
10-year average of 1.05 times. Trading below book value can signal
investor concerns about capital strength or future
profitability.
Despite the low valuation, analysts and investors don't see the
stock as a bargain. Refinitiv tallies analysts' recommendations on
a five-point scale: 1 is a strong buy, 3 a hold and 5 a sell. HSBC
is currently at 3.3, the most negative since 2002.
Analysts don't expect overall profit to fall at HSBC, but
neither do they expect rapid growth. The consensus of the forecasts
collected by the bank is for an income rise of just 0.3% next year,
to US$14.44 billion, and about 5.2% in 2021.
Mr. Lam at BNP Paribas Asset Management said many bank shares
aren't yet cheap enough to compensate for negatives such as rising
credit costs. "It's not a favorable time to make a bet," on Hong
Kong-related banking stocks, he said.
Daryl Liew, head of portfolio management at REYL Singapore, said
his fund doesn't hold any banks with heavy exposure to Hong
Kong.
Prolonged unrest could further hurt the economy, he said, and
"it's hard to see how the banks can continue to thrive when the
broader economy is in the doldrums."
Write to Frances Yoon at frances.yoon@wsj.com and Joanne Chiu at
joanne.chiu@wsj.com
(END) Dow Jones Newswires
October 28, 2019 02:47 ET (06:47 GMT)
Copyright (c) 2019 Dow Jones & Company, Inc.
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