China Banks:New interbank rules more benign than expected

The PBOC, together with the CBRC, CSRC, CIRC and SAFE, has announced new regulations to curtail interbank business. The new regulations are less stringent than the market had generally expected. The overall policy objective is to normalize the practices of interbank business. Interbank business, especially the channel business, will slow as a result.

Distinguishing non-standard asset investments from traditional interbank lending. The regulator has stipulated that bank investments in non-standard assets should be categorized as “interbank investments”, not “assets held under resale agreement” as was the case previously.

Regulators aim to curb the channel business of the banks to mitigate chain effect of default risks. The PBOC is now requiring that banks not accept any guarantee, explicit or implicit, from third-parties when conducting interbank investments. This will hamper the expansion of interbank business as most banks rely on guarantees from counterparties to reduce default risk.

Capital consumption and provisioning requirements still vague. New regulations have followed Circular 107 issued by the State Council in December 2013. The aim of the new regulations is to compel the banks to adopt the principle of “substance over form” in calculating capital and provisioning requirements. This still leaves the banks with some flexibility to determine their own provisioning.

New rules to reduce concentration and liquidity risk. Under the new rules, interbank lending to a single financial institution is not to exceed 50% of Tier-1 capital. Total interbank borrowing is not to exceed a third of total liabilities. The tenor of interbank business, excluding interbank placements, is to be no more than one year.

Big-4 state-owned banks the major beneficiaries. Smaller banks will be more adversely affected by the new regulations as they are more involved in interbank business by way of receivables investments (e.g. TBRs) and assets under resale agreements (e.g. bills and TBRs). State-owned banks tend to be more conservative when it comes to interbank business. A tightening regulatory environment will have a negative effect on investor sentiment towards the Chinese banks. In 2H14F, we expect more event risk, both on- and off-balance sheet. Bank stock prices are likely to remain range bound.