4 key takeaways from Barclays' China bank field trip

Leadership transition in March could bring certain policy redirections in 2H12.

Barclays feels incrementally more positive coming back from its week-long fieldtrip in China where it visited regulators, state researchers, banks, micro-lenders, guarantors, wealth management products (WMP) distributors, local bond rating agency, and SMEs in Wenzhou, Shanghai, Beijing, and Xi'An.

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Meanwhile, we are mindful that leadership transition in March could bring certain policy redirections in 2H12 that change our view. Our key trip takeaways are: 1) macro-wise, China will focus on 'stability' into and beyond the March leadership transition; 2) monetary condition will likely remain loose;

3) regulators will focus on regulating banks' LGFV and off-balance products (shadow banking) risks in 2013; 4) asset quality is stabilizing, according to banks and private lenders in Wenzhou; 5) NIM seems to be largely flat in 4Q12 and large banks (except BOC) guided for 10-15bps y-y NIM compression in 2013. We maintain our near-term positive view on China banks, and our top picks are BOC, BoCom, CRCB and ICBC.

Slightly more positive on macro policy support: Money supply is generally expected to remain steady to loose and we noted investment desire by local governments are strong (in both Wenzhou and Xi'An) in this political transition year, which will likely keep economic activities strong in 1H13.

Only PBOC has mentioned inflation as a key risk in 2H12. While companies in the western China city of Xi'An are upbeat about growth opportunities from urbanization and tech industries, business operation trends for SME exporters in Wenzhou have neither improved nor deteriorated.

Tightening regulations on LGFVs and WMPs: Regulators and think-tank researchers believe WMPs and off-balance sheet investment products help promote market "interest rates" and financial market competition, and thus are positives.

Regulation will be based on a "gradual" approach to avoid policy missteps of dramatic shrinking in financing. CBRC indicated it will continue its "no-growth" policy on LGFV loans in 2013 and will ban WMPs to invest in LGFVs.

Banks were recently banned from distributing PE products. While CBRC believes risk of bank-issued WMPs is low, new regulation will guide banks to reduce usage of 'asset pool' and reduce maturity mismatch of WMP assets and liabilities.

Bank NIM to drop y-y in 2013, asset quality benign and credit cost will be flat: Three of the big-4 banks guided for a y-y NIM drop in 2013 – only BOC expects flat NIM y-y. NIM decline will likely be smaller for mid-size banks than large banks.

4Q12 NIM seems to be steady to positive but should decline by 10-15bs q-q in 1Q13. Most banks confirmed that NPL risk had peaked in 2H12, with new NPL formation having slowed since 4Q12. Credit charges will likely remain at a low level in 2013.