Chinese bank stocks: never this cheap, rarely so unloved.
Weakened by the government’s call to sacrifice profitability, stung by ultra-low interest rates and the threat of souring loans, the country’s Hong Kong-listed banks have seen their market value contract by $194 billion in 2020 as of Wednesday. Their share of the MSCI China Index has shrunk to a measly 14%, near the lowest since 2005 and down from a 43% weighting in June 2015.
Much of the recent focus has been on China’s big four state-owned lenders, which posted profit declines of at least 10% in the first half. Shares of Industrial & Commercial Bank of China Ltd., Agricultural Bank of China Ltd., Bank of China Ltd. and China Construction Bank Corp. are priced at half their estimated book value or less, the lowest on record. A gauge of Chinese banks in Hong Kong is down 24% this year, on pace for the worst slump since the global financial crisis.
Chinese lenders have been a losing trade since 2018, when the government began tightening conditions in money markets as part of Xi Jinping’s deleveraging campaign. The pandemic has brought renewed pressure, with banks enlisted to funnel cheap loans to support economic growth. Bad debt hit a record this year and capital buffers are eroding so much that lenders including ICBC are planning a combined $29 billion bond sale.
Shares of Chinese banks listed in Hong Kong, where valuations are typically cheaper than on the mainland, are trading near their all-time low relative to the MSCI China Index. And it could get worse: Citigroup Inc. analysts last week said investors have yet to price in the full extent of this year’s profit deterioration, predicting a 23% slump versus 2019 for the banks they cover.
The value of non-performing loans may rise to as much as 3.8 trillion yuan ($556 billion) from 2.7 trillion yuan last year, the Citigroup analysts estimated.
China’s perennial underperformers, bank shares have been singled out as too-cheap-too-ignore for years. Value investors keep burning their fingers: the stocks lagged a bull market in 2017, they were close to toxic in 2018 and they disappointed again in 2019.
A Bloomberg index of Chinese banks in Hong Kong rose 1.9% on Tuesday, with some traders predicting a rotation into the sector from expensive industries like consumer shares. It slid as much as 1.3% before ending 0.9% lower on Wednesday, the biggest drop this month.
It’s a never-ending value trap that’s once again tempting the brave. Banks have tumbled more than 7% since Zhou Liang, founder of Shanghai Minority Asset Management Co., said in June that the value case for the stocks was too compelling. And yet he says he’s buying more.
“The risk-reward of Chinese bank shares is really attractive right now,” said Zhou.
Like Zhou, Beijing Lingtongshengtai Asset Management’s Dong Baozhen is keeping the faith even though bank stocks have dragged his flagship fund to a 40% loss since the end of 2017. Dong started adding the shares in 2018 and hasn’t been put off by this year’s slump. “I’m upbeat on the whole sector and you can almost just close your eyes and buy any bank stock.”
There’s brave and then there’s Chen Jiahe, chief investment officer of Novem Arcae Technologies Co. He has about one-third of his portfolio in the sector, mostly shares of the large state-owned banks. He’s looking to make 300% to 400% returns on his bank holdings in the next few years.
“You have to have endurance,” said Chen. “As long as you’re sure of your bet, you have to be mentally prepared.”