Breakingviews - A bad bank for Hong Kong is far from unthinkable
Sure, systemic risks look limited for now. Bad loans from all sectors of the city's economy stood at $25 billion at the end of March, amounting to just 1.98% of the banking system's total, according to the HKMA's statistics. And the provision coverage ratio stands at more than 140%. That's despite a 30% decline in home prices from their 2021 peak.
The valuation of commercial real estate (CRE) has probably fallen more, although the slump has not been fully factored into developers and banks' books given there have been no notable fire sales. An extended real estate slump would change that.
At the end of March there were some HK$1.4 trillion ($180 billion) of CRE loans in Hong Kong. In a September report, Goldman Sachs analysts argued that a 25% decline in developers' 2023 pre-tax earnings could push the non-performing ratio for that debt up to 22%, surpassing the 1998 Asian financial crisis peak of 17%.
That may sound like an unlikely dire scenario. But six of 11 smaller developers tracked by Jefferies analysts have posted negative EBIT, excluding fair value changes, since 2024, and carry HK$173 billion in debt. One of them, Emperor International (0163.HK), opens new tab, defaulted on HK$16.6 billion of borrowings last month. Add in unlisted property investors and New World Development (0017.HK), opens new tab, which secured a $11 billion refinancing deal in June, and up to 30% of CRE loans in the banking system could be at risk of downgrade, per Jefferies.
New World, whose new loans are due in just three years' time, is in talks to sell a giant airport mall at a 25% loss against its HK$20 billion investment, Bloomberg reported, opens new tab last week, citing people familiar with the matter.
Such disposals will up the pressure on lenders. For instance, the $30 billion Hang Seng Bank (0011.HK), opens new tab - majority-owned by HSBC - has 36% of its book allocated to Hong Kong properties. Its problem loans already stand at 6.12% of its overall portfolio. The lender was one of those involved in a mooted plan to create a bad bank, per Bloomberg. Despite the HKMA's denial, it's likely to become a more frequent topic of discussion.
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