Global Bank Equity Specialist, Creative Portfolios

Paul Hollingworth

Global Bank Equity Specialist

Creative Portfolios

Equity Bottom-Up

While <a href="https://www.smartkarma.com/entities/bank-of-hangzhou-co-ltd" target="_blank" rel="noopener" data-smartkarma-citation="entities:27215:1">Bank of Hangzhou Co Ltd (600926 CH)</a> may tick the boxes for fundamental progression and valuation, we remain on the sidelines.The bank does not look expensive. Shares trade at a Franchise Valuation of 7%, a P/Book of 0.87x, a Total Return Ratio of 1.85x, and an Earnings Yield of 12%. Our value-quality gauge, the PH Score™, is a highly respectable 8.5, revealing generally benign trends.However, risks may outweigh opportunity. Concerns and caveats are a high Debt/Equity ratio, rapidly rising "Loss Loans", softening Liquidity, and Capital Adequacy slippage (below 8.5% CET1 threshold prior to recent issuance). The lender shares with other banks in China a strategy to expand credit growth aggressively in a cooling economy which flatters the low problem loan ratio. Unlike other lenders in China, one might see less asset quality perturbation given that "Substandard" and "Doubtful" loan buckets seem to be more under control than elsewhere, SMLs are decreasing fast, and impaired loans net of reserves declined by 35% YoY, in US$. However, the price for this is a sharp increase in "Loss" loans (stage 2 migration into stage 3) and consequently higher credit costs and provisioning requirements.What puzzles us though is the paltry low single-digit YoY increase in Interest Income given the forceful double-digit expansion of pass credit. That's about US$100mm approximately of Interest Income gained over 12 months on US$8bn of additional credit.For investors looking for Chinese bank exposure, recent results underline the solid progression underway at the SOEs - Bank of China to a lesser extent, though it still remains lowly rated. Given the adverse news surrounding Baosheng Bank and lately <a href="https://www.smartkarma.com/entities/bank-of-jinzhou-co-ltd" target="_blank" rel="noopener" data-smartkarma-citation="entities:21014:1">Bank Of Jinzhou (416 HK)</a>, it of course makes sense to be cautious though potential opportunities can be missed. We have pinpointed recently our issues with <a href="https://www.smartkarma.com/entities/bank-of-tianjin-co-ltd" target="_blank" rel="noopener" data-smartkarma-citation="entities:22648:1">Bank Of Tianjin (1578 HK)</a> and <a href="https://www.smartkarma.com/entities/bank-of-jiujiang-co-ltd" target="_blank" rel="noopener" data-smartkarma-citation="entities:23745:1">Bank Of Jiujiang (6190 HK)</a> though <a href="https://www.smartkarma.com/entities/jiangsu-jiangyin-rural-com-a" target="_blank" rel="noopener" data-smartkarma-citation="entities:27217:1">Jiangsu Jiangyin Rural Com-A (002807 CH)</a> strikes us as interesting.<a href="https://www.smartkarma.com/entities/commonwealth-bank-of-australia" target="_blank" rel="noopener" data-smartkarma-citation="entities:14:1">Commonwealth Bank Of Australia (CBA AU)</a> is the main shareholder of Bank of Hangzhou. Other supportive investors include Invesco and Blackrock. A private placement of around US$1bn in July raised Hongshi Holdings equity stake to 12%. This came fast on the back of a &gt;US$1bn bond issue. The dividend was cut last year- no doubt due to capital constraints. Management is clearly addressing a capital shortfall that marks other lenders such as <a href="https://www.smartkarma.com/entities/huaxia-bank-co-ltd" target="_blank" rel="noopener" data-smartkarma-citation="entities:9142:1">Huaxia Bank Co Ltd A (600015 CH)</a>, <a href="https://www.smartkarma.com/entities/bank-of-nanjing-co-ltd" target="_blank" rel="noopener" data-smartkarma-citation="entities:683:1">Bank Of Nanjing Co Ltd A (601009 CH), </a><a href="https://www.smartkarma.com/entities/huishang-bank-corp-ltd-h" target="_blank" rel="noopener" data-smartkarma-citation="entities:652:1">Huishang Bank Corp Ltd H (3698 HK)</a> and <a href="https://www.smartkarma.com/entities/bank-of-jiangsu-co-ltd" target="_blank" rel="noopener" data-smartkarma-citation="entities:27216:1">Bank of Jiangsu Co Ltd (600919 CH)</a> for example. This may well be a structural problem.

While Bank of Hangzhou Co Ltd (600926 CH) may tick the boxes for fundamental progression and valuation, we remain on the sidelines.The bank does not look expensive. Shares trade at a Franchise Valuation of 7%, a P/Book of 0.87x, a Total Return Ratio of 1.85x, and an Earnings Yield of 12%. Our value-quality gauge, the PH Score™, is a highly respectable 8.5, revealing generally benign trends.However, risks may outweigh opportunity. Concerns and caveats are a high Debt/Equity ratio, rapidly rising "Loss Loans", softening Liquidity, and Capital Adequacy slippage (below 8.5% CET1 threshold prior to recent issuance). The lender shares with other banks in China a strategy to expand credit growth aggressively in a cooling economy which flatters the low problem loan ratio. Unlike other lenders in China, one might see less asset quality perturbation given that "Substandard" and "Doubtful" loan buckets seem to be more under control than elsewhere, SMLs are decreasing fast, and impaired loans net of reserves declined by 35% YoY, in US$. However, the price for this is a sharp increase in "Loss" loans (stage 2 migration into stage 3) and consequently higher credit costs and provisioning requirements.What puzzles us though is the paltry low single-digit YoY increase in Interest Income given the forceful double-digit expansion of pass credit. That's about US$100mm approximately of Interest Income gained over 12 months on US$8bn of additional credit.For investors looking for Chinese bank exposure, recent results underline the solid progression underway at the SOEs - Bank of China to a lesser extent, though it still remains lowly rated. Given the adverse news surrounding Baosheng Bank and lately Bank Of Jinzhou (416 HK), it of course makes sense to be cautious though potential opportunities can be missed. We have pinpointed recently our issues with Bank Of Tianjin (1578 HK) and Bank Of Jiujiang (6190 HK) though Jiangsu Jiangyin Rural Com-A (002807 CH) strikes us as interesting.Commonwealth Bank Of Australia (CBA AU) is the main shareholder of Bank of Hangzhou. Other supportive investors include Invesco and Blackrock. A private placement of around US$1bn in July raised Hongshi Holdings equity stake to 12%. This came fast on the back of a &gt;US$1bn bond issue. The dividend was cut last year- no doubt due to capital constraints. Management is clearly addressing a capital shortfall that marks other lenders such as Huaxia Bank Co Ltd A (600015 CH), Bank Of Nanjing Co Ltd A (601009 CH), Huishang Bank Corp Ltd H (3698 HK) and Bank of Jiangsu Co Ltd (600919 CH) for example. This may well be a structural problem.

Bank of Hangzhou: The Tide Must Reach Its Lowest Before It Turns

Jiangsu Jiangyin Rural Com-A / Equity Bottom-Up

The reaction to Q219 results of <a href="https://www.smartkarma.com/entities/jiangsu-jiangyin-rural-com-a" target="_blank" rel="noopener" data-smartkarma-citation="entities:27217:1">Jiangsu Jiangyin Rural Com-A (002807 CH)</a> seems to have been pretty muted, perhaps lost somewhere in the trade war maelstrom . Given the elevated PH Score™ (our fundamental trend and value-quality indicator), we believe that this may be an underreaction. The bank reported progress in Profitability, in Efficiency, in Asset Quality, in Capitalisation, in Liquidity, and in Provisioning. A PH Score™ of 9.9 is in the top decile globally. When combined with a low RSI and an attractive Franchise Value, the bank thus stands out globally on our VFM (Valuation, Fundamentals, Momentum) model.As elsewhere in China, there are caveats. The proportion of non-core Income to PT Profit is elevated given the weight of Treasury operations. Having said that "Core" Income expanded robustly (+14% YoY in US$) while OPEX contracted by 14%, generating highly positive "jaws". In addition, Loan Loss Provisions surged despite an improvement in Asset Quality. Stage 3 Loans are now 79% provisioned according to IFRS9 while 29% of Stage 2 Loans are backed by reserves. On the plus side, Special Mention Loans continue to decrease (by 45% YoY in US$) while NPLs declined by 12% YoY in US$, especially "substandard" and "loss" Loans.Shares of <a href="https://www.smartkarma.com/entities/jiangsu-jiangyin-rural-com-a" target="_blank" rel="noopener" data-smartkarma-citation="entities:27217:1">Jiangsu Jiangyin Rural Com-A (002807 CH)</a> drifted during Q219 having spiked upwards on relatively high volume in March which coincided with the annual earnings release. Shares are way below their April 2017 peak and trade on a P/Book of 0.88x and a Franchise Value of 10%.

The reaction to Q219 results of Jiangsu Jiangyin Rural Com-A (002807 CH) seems to have been pretty muted, perhaps lost somewhere in the trade war maelstrom . Given the elevated PH Score™ (our fundamental trend and value-quality indicator), we believe that this may be an underreaction. The bank reported progress in Profitability, in Efficiency, in Asset Quality, in Capitalisation, in Liquidity, and in Provisioning. A PH Score™ of 9.9 is in the top decile globally. When combined with a low RSI and an attractive Franchise Value, the bank thus stands out globally on our VFM (Valuation, Fundamentals, Momentum) model.As elsewhere in China, there are caveats. The proportion of non-core Income to PT Profit is elevated given the weight of Treasury operations. Having said that "Core" Income expanded robustly (+14% YoY in US$) while OPEX contracted by 14%, generating highly positive "jaws". In addition, Loan Loss Provisions surged despite an improvement in Asset Quality. Stage 3 Loans are now 79% provisioned according to IFRS9 while 29% of Stage 2 Loans are backed by reserves. On the plus side, Special Mention Loans continue to decrease (by 45% YoY in US$) while NPLs declined by 12% YoY in US$, especially "substandard" and "loss" Loans.Shares of Jiangsu Jiangyin Rural Com-A (002807 CH) drifted during Q219 having spiked upwards on relatively high volume in March which coincided with the annual earnings release. Shares are way below their April 2017 peak and trade on a P/Book of 0.88x and a Franchise Value of 10%.

Jiangsu Jiangyin Rural: Catching the Sun's Rays

China

Jiangsu Jiangyin Rural Commercial Bank CO.,LTD. operates commercial banking businesses. The Company offers deposits, loans, settlement, bill discounting, credit insurance, financing, and agricultural supporting services. Jiangsu Jiangyin Rural Commercial Bank provides services for enterprises and individuals.

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Jiangsu Jiangyin Rural Com-A (002807 CH)

Bank of Hangzhou: The Tide Must Reach Its Lowest Before It Turns

While Bank of Hangzhou Co Ltd (600926 CH) may tick the boxes for fundamental progression and valuation, we remain on the sidelines.The bank does...

Paul Hollingworth

Jiangsu Jiangyin Rural: Catching the Sun's Rays

The reaction to Q219 results of Jiangsu Jiangyin Rural Com-A (002807 CH) seems to have been pretty muted, perhaps lost somewhere in the trade war...

Paul Hollingworth

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