Analysts brace themselves for slow loan growth in Hong Kong banks

Blame it on China's sluggish economic growth.

The reporting season for Hong Kong banks is due to start in early August with BEA and Hang Seng Bank.

According to a research note from Barclays, it estimates underlying sector earnings grew by 10% h/h in 1H15, led by strong market-related fee income (brokerage, wealth management, insurance) and low credit costs in Hong Kong but partially offset by lower onshore China profit contributions.

Barclays expects low single-digit rates of loan growth, some margin pressure and asset quality deterioration in the onshore China loan portfolios.

BOCHK is Barclays' preferred stock among the local Hong Kong banks as it is expanding regionally and potentially higher bids for its stake in Nanyang Commercial Bank should be supportive for BOCHK's share price, in Barclays' view.

Here's more from Barclays:

Improved wealth management and securities trading income: The Hong Kong market's rally in 2Q15 benefited the banks market-related fee income (brokerage, wealth management, insurance); thus, we expect faster than industry growth due to their large retail franchises.

The stock market's average daily turnover reached a record HK$124bn in 1H15, up 65% h/h. We expect BOCHK and Hang Seng Bank benefitted the most vs. peers as market-related income accounts for 12% of revenue for both banks.

Slower loan growth and margin pressure: We expect muted loan growth in 1H15 due to slower economic growth in China and the narrowing of the interest rate differential between onshore and offshore borrowing rates after the interest rate cuts in China.

System loan growth in Hong Kong for the year to May was only 2.7%. We expect margin pressure given 1) interest rate cuts in China resulting in lower asset yields; 2) easier liquidity conditions and lower loan/deposit ratios; and 3) flight to quality clients amid the slower growth environment.

Cautious on China asset quality: Although asset quality conditions in Hong Kong are stable, we expect further deterioration in the banks' China onshore loan portfolio in line with the weakening economy.

BEA has the highest exposure to China at 43% of its total loans. We believe BOCHK is most defensive to onshore China exposure given that it is disposing of its Mainland banking subsidiary held through Nanyang Commercial Bank.