Banks' profits threatened as nCov hits on credit demand, interest margins

Average credit losses are estimated to be 25bp-30bp.

Hong Kong banks’ profits face a new challenge in the form of the 2019 novel coronavirus (nCov) outbreak, which will likely hit on credit demand and curb non-interest revenues, reports S&P Global Ratings.

Banks temporarily closed branches across the city in an effort to limit the spread of nCOv. Bank of East Asia shuttered 20 of its branches in the interim starting February 1 to “protect both its customers and staff members’ health and safety.”

In a statement, the Hong Kong Monetary Authority (HKMA) said that it expects about 20-30% of bank branches to be closed or carry restricted hours amidst the nCov crisis.

Increasing volatility in financial markets and a temporary shutdown of some bank branches may curb non-interest revenues and credit costs could pick up, albeit from a low base, the report noted.

Weakening economic activity in Hong Kong and China will also hit credit demand, whilst interest margins could narrow amidst tight competition and low interest rates.

Further, credit card revenues and loan growth are also under threat, as the outbreak is expected to negatively impact the city’s travel and tourism, hospitality, entertainment, trade, and retail sectors. Some of these sectors are already under severe strain as a result of social unrest. These sectors are also sighted to be the hardest hit by the economic impact of the outbreak.

As of end-September 2019, loans related to travel and tourism, hospitality, and entertainment accounted for about 5% of systemwide loans, wholesale and retail trade comprised about 4%, credit cards and other personal loans about 8%, and property-related loans including mortgages about 30%.

"Nonetheless, the sector's credit losses will likely remain fairly low and manageable in a global context, thanks to reasonably tight underwriting standards," said S&P Global Ratings credit analyst Shinoy Varghese.

“We estimate average credit losses, defined as the provisioning cost to customer loans, to be 25 basis points (bps)-30 bps in 2019 compared with 15 bps-20 bps in 2018,” he added.

The nCov outbreak could also lead to a sharp increase in the unemployment rate, which in turn will have a negative impact on banks' credit card receivables and, to a lesser extent, residential mortgages.

During the SARS crisis, the unemployment rate touched an all-time high of 8.5%, albeit briefly. As of end-2019, Hong Kong’s unemployment rate stood at 3.3%, according to data from the Labour and Welfare Department.

The virus outbreak also poses another challenge to the Hong Kong property sector, with homebuyer demand likely to be dampened further, said S&P. Transaction volumes during the SARS epidemic hit an all-time low, and history could repeat itself if the crisis persists.

But the sector is better equipped to withstand any impact from nCov, compared to before, the report said.

"The banking sector has also strengthened its capitalization over the past couple of years," Mr. Varghese added. "Controlled lending, regulatory Tier 1 capital issues, sufficient internal capital generation, and asset disposals have provided banks with more buffer to absorb losses."

In addition, the government may unveil supportive policies, including expansionary fiscal measures such as short-term stimulus packages targeting small and midsize enterprises and the retail sector.

In October 2019, HKMA lowered the countercyclical capital buffer for Hong Kong banks to 2% from 2.5%, aimed at releasing an extra $25.74b-$38.62b (HK$200b-HK$300b) into the broader economy.