China Slowdown And Global Protectionism Will Weaken Banking Fundamentals

Key Takeaways

• Heavy exposure to China's real estate sector and demographic headwinds threaten asset quality and long-term earnings stability.
  
• Heightened regulatory demands and global deglobalization trends limit profitability, international expansion, and access to diversified capital sources.
  
• Global diversification, digital transformation, strengthened risk controls, and strategic support for green and private sector finance position the bank for sustainable growth and profitability.

Catalysts

Provides various banking and financial services in Chinese Mainland, Hong Kong, Macao, Taiwan, and internationally.

• As China's economic growth slows due to deepening demographic challenges and a shrinking workforce, Bank of China faces persistent pressure on loan growth and asset quality, which threatens its ability to sustain revenue and earnings growth in the coming years.
  
• Intensifying global protectionism and deglobalization threaten the expansion and profitability of BOC's overseas operations, risking a reversal in cross-border financing growth and limiting future fee and interest income diversification.
  
• The bank remains heavily exposed to China's troubled real estate sector, keeping it vulnerable to rising non-performing loans and potential write-offs, which are likely to put significant pressure on net margins and bottom-line profitability.
  
• BOC's ongoing need to comply with higher regulatory requirements-both globally and domestically-increases operational and compliance costs and constrains risk-taking, which can erode sector-wide profitability and depress future net margins.
  
• The acceleration of green finance and ESG investing puts BOC at risk of higher funding costs and restricted global capital access, particularly due to its significant exposure to heavy industries and fossil fuels, potentially reducing its long-term revenue streams.

Bank of China Future Earnings and Revenue Growth

Assumptions

• This narrative explores a more pessimistic perspective on Bank of China compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts.
• The bearish analysts are assuming Bank of China's revenue will grow by 8.2% annually over the next 3 years.
• The bearish analysts assume that profit margins will shrink from 40.9% today to 35.0% in 3 years time.
• The bearish analysts expect earnings to reach CN¥238.4 billion (and earnings per share of CN¥0.73) by about August 2028, up from CN¥219.9 billion today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 5.7x on those 2028 earnings, down from 6.1x today. This future PE is lower than the current PE for the HK Banks industry at 5.8x.
• Analysts expect the number of shares outstanding to remain consistent over the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 8.45%, as per the Simply Wall St company report.

Bank of China Future Earnings Per Share Growth

Risks

• The ongoing expansion of Bank of China's global network-now covering 64 countries and regions-with strong growth in overseas assets and pre-tax profit contribution (over 26 percent for the group in 2024), supports diversified revenue streams and limits reliance on the domestic economy, likely benefiting overall revenue and net margins in the long run.
  
• The bank's strategic acceleration in digital transformation and AI integration, with thousands of AI application scenarios reducing operational costs and boosting efficiency, positions it to capture future digital banking opportunities and improve cost-to-income ratios as well as long-term profitability.
  
• Bank of China's strengthening of its risk management framework, including a high provision coverage ratio (over 200 percent) and stable non-performing loan ratio (around 1.25 percent), alongside prudent asset quality control, reduces future credit loss risks and supports stable earnings and asset quality.
  
• The strong policy and regulatory backing for private sector and green finance-reflected in 31 percent growth in green credit and targeted support for technology, manufacturing, and private enterprises-positions the bank for continued growth in fee-based and lending revenues as China pursues high-quality economic development.
  
• The bank's active participation in national consumption-boosting and industrial upgrade initiatives, including large-scale credit support for consumption, technological innovation, and advanced manufacturing, helps drive sustained growth in loan demand and service fees, thereby supporting revenue and earnings expansion over time.

Valuation

• The assumed bearish price target for Bank of China is HK$3.61, which represents two standard deviations below the consensus price target of HK$5.16. This valuation is based on what can be assumed as the expectations of Bank of China's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of HK$5.9, and the most bearish reporting a price target of just HK$2.79.
• In order for you to agree with the bearish analysts, you'd need to believe that by 2028, revenues will be CN¥681.9 billion, earnings will come to CN¥238.4 billion, and it would be trading on a PE ratio of 5.7x, assuming you use a discount rate of 8.4%.
• Given the current share price of HK$4.57, the bearish analyst price target of HK$3.61 is 26.5% lower. Despite analysts expecting the underlying buisness to improve, they seem to believe the market's expectations are too high.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.