Since the beginning of 2024, the financial landscape has witnessed significant shifts, particularly concerning the pressures of asset repricing and their subsequent effects on bank profitabilityAs both the asset and liability sides of the banks undergo substantial changes, the lowering of deposit interest rates has gradually started to benefit banking margins, easing the strain on financial institutions and shaping a more structured competitive landscape in deposit acquisitionNew regulatory measures to prohibit “manual interest supplements” are paving the way for fairer competition in the banking sector, thus potentially lowering deposit costs across the industry.

In the first half of 2024, commercial banks achieved a net profit of 12,574 billion yuan, reflecting a modest year-on-year growth of 0.4%. Despite this growth, the rate of increase has tapered off compared to earlier quarters

Insights into net interest income and non-interest income reveal that growth in these areas has started to slow down, basically stagnating as banks face ongoing challenges concerning revenue streams.

Underpinning this slight profitability is the confluence of two critical pressures: insufficient demand from the real economy and a regulatory environment that is optimizing supplySince 2024 commenced, there has been a notable deceleration in bank asset growthBy the end of June, total assets held by commercial banks reached an impressive 370 trillion yuan, marking a year-on-year increase of 7.28%. However, this marks a significant slowdown compared to the figures from 2023 and the first quarter of 2024, where the growth rate diminished by 3.68 percentage points and 1.86 percentage points respectivelyNet interest margins remained steady at 1.54%, indicating a relative stability in profitability despite external pressures.

The stability of net interest margins can be attributed to a gradual improvement in liability contributions

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The net interest margin for the banking sector in the second quarter of 2024 was recorded at 1.54%, marking stabilization compared to prior metricsLooking forward, with the dual forces of decreasing the cost of liabilities and lower deposit rates, banks anticipate easing pressures on interest margins in the latter half of the yearThe effects of lowering deposit rates and proactive cost efficiency strategies support these margins, indicating an overall positive direction for the banking sector.

The downward trend in deposit costs is further amplified within the context of mutual pressures faced on both ends of lendingLoosening credit rates have been observed continuously since the start of 2024, even as deposit rates undergo their own correctionsIn the regulatory sphere, the Total cancellation (comprehensive cancellation) of the lower limits on personal mortgage rates in the second quarter reflects a commitment to navigating the complex demand landscape

Rates have been lowered significantly, with the one-year and five-year Loan Prime Rates decreasing by a total of 10 and 35 basis points respectively during this timeframe.

To illustrate the impact, one can analyze the case of the Industrial and Commercial Bank of China (ICBC). Following the LPR reductions since June 2023, it is expected that in the second quarter of 2024 through the first quarter of 2025, the net loan yield will see declines of 5bp, 4bp, 4bp, and 7bp respectivelyThis downward trajectory resonates with the broader credit market's low interest rates for newly issued loans, with personal loans decreasing even more substantially relative to the LPR, suggesting a robust trend in interest pricing downwards within the credit spaceThe fundamental challenge remains: a persistent weakness in effective credit demand drastically influences loan market behaviors.

Moreover, as a response to previously high deposit rates, the costs related to liabilities have found their way into a decreasing trajectory

By the first quarter of 2024, the cost of interest-bearing liabilities for listed banks saw a decrease of approximately 5.4bps from the year's initial benchmarksSpecific metrics reveal that significant declines are present across different banking sectors, with the state-owned banks witnessing a drop of 4.2bps, joint-stock banks at 6.8bps, city commercial banks at 6.9bps, and rural commercial banks leading with a substantial drop of 12.4bps.

In April, regulatory adjustments concerning the “manual interest supplements” indicated an anticipated average boost of 1.5bps and 3.7bps to the net interest margin for state-owned and joint-stock banks respectivelyFollowing this in July, banks initiated another cycle of deposit rate cuts, effectively lowering rates across a spectrum of deposit products, notably a 5bp cut in current deposit rates and up to 20bps on longer-term deposits

As a result, the net margin improvements for state-owned banks, joint-stock banks, city commercial banks, and rural commercial banks could collectively witness an uplift of approximately ranging from 1.5bps to 1.8bps in 2024.

Presently, the primary contributors to the enhancement in deposit costs are threefoldFirstly, the second quarter initiatives targeted at controlling the “manual interest supplements” mitigate rigidities associated with corporate depositsSecondly, the impact of substantial deposit rate cuts in December 2023 and July 2024 are producing significant repricing dynamicsLastly, previous reductions in deposit rates around late 2022 and mid-2023 are still playing out, helping banks to improve their cost structures going forward.

However, it should be noted that the initial effects of several rounds of deposit reductions did not yield the anticipated benefits

From September 2022 to September 2023, state-owned banks engaged in multiple rounds of deposit rate cuts, yet costs continued to climb due to persistent external economic pressures.

According to research from Donghai Securities, the unexpected rise in deposit costs despite rate cuts can be attributed to three primary reasonsFirstly, residents' willingness to spend has suppressed, combined with a slowdown in corporate investment and returns, exacerbating the fixation on long-term depositsSecondly, the pace of deposit rate reform has lagged behind loan adjustments, delaying the anticipated reductionsLastly, the nature of fixed-rate pricing for deposits means that repricing generally occurs at maturity, creating a lagged effect in lowering deposit costs compared to loans.

Nevertheless, as regulatory and pricing reforms take effect, a marked decrease in deposit costs has become foreseeable

Using ICBC as a reference, tightening regulations around “manual interest supplements” coupled with multiple rounds of repricing is expected to yield a favorable drop in deposit costs, allowing banks to maintain net interest margins against liabilities.

If effectively implemented, the governance of “manual interest supplements” could enhance deposit cost rates significantly in the second quarter of 2024, with preliminary estimates suggesting improvements around 5bpsGiven the extent of the repricing actions taken in July 2024 and December 2023, incremental enhancements in deposit costs could follow suit throughout the following quartersFurthermore, as evidenced by the first midyear reports from listed banks, such as Nanjing Bank, widespread reductions in overall deposit costs relative to full-year metrics from 2023 validate these calculations.

The pressure on bank net interest margins is expected to ease gradually

Ongoing factors influencing profitability suggest that banks will continue to operate at low-margin levelsBeneficially, through proactive measures, net interest margin pressures are predicted to soften due to three emerging factors: heightened support from deposit repricing; a noticeable reduction in interbank funding rates; and regulatory stances that will tenderly guard net interest margins amid rising credit risk pressures in smaller banks.

On the flip side, several latent elements may continue to suppress net marginsBeginning in the second quarter of 2024, there appears to be a resurgence in the fixation on deposit termsFurthermore, consumers seeking alternatives to interest rate declines may opt for higher-yielding deposit products or consider deposits at competing banksAdditionally, manufacturing PMI indicators hovering below thresholds suggest weaker credit demand, signaling potential that loan rates may still see downward adjustments during the fiscal year.

By weighing the various factors influencing these trends, it is evident that while the positive impacts from deposit reductions on bank margins are becoming more pronounced, the extent of those decreases may experience a slowdown

As a response to weakened asset demand, banks will likely contend with continued low-interest margin environments for a sustained periodCurrent data indicates that net interest margins across commercial banks held steady at 1.54% in the first half of 2024. As analyzed, state-owned banks recorded a slight compression of 1bp to 1.46%, while joint-stock and rural banks improved slightly to 1.63% and 1.72%. City commercial banks experienced no change at 1.45%, emphasizing a phase of relative stability.

The favorable conditions achieving this stability stem from a triumvirate of positive influences: a renewal of term deposits coming up for repricing; regulatory interventions targeting manual interest supplements to alleviate deposit cost burdens; and a proactive approach concerning high-yield products like notice deposits and large certificates of deposit.

It's quite apparent that the tightening controls over liabilities played a significant role in preserving net interest margins at 1.54% for the first half of 2024.

Looking ahead into the entirety of 2024, while net interest margins remain under strain, predictions indicate a narrowing of declines thanks to effective liability cost controls

Given the current subdued demand for credit, an increase in supportive growth policies may lead to continued downward pressure on newly issued loan rates, particularly regarding mortgage ratesCoupled with bonds yielding lower returns, asset yields are poised to stay under pressure through the fiscal year.

Nevertheless, the regulatory environment supportive of bank margins, alongside synchronized adjustments in savings and loan rates, underscores an optimistic view that decreasing liability costs might alleviate pressures on diminishing marginsConsidering the changing structures of deposits due to rate reductions, anticipated adjustments arising from deposit migrations and their expiration await further observation in future quarters.

Currently, the underlying economic conditions affecting the banking sector maintain a positive trajectory: concerns over risks in real estate and urban investment have eased, signifying enhanced security levels over earlier periods

As consumption-boosting policies come into clearer focus, the broader banking environment is likely to see improvements.

In summary, commercial banks have continued to enjoy a stable earnings environment without significant disruptions, entering a phase characterized by responsible credit issuance aimed at fostering high-quality growth, while overall asset expansion moderates in paceWith net interest margins stabilizing and asset quality indicators remaining intact, the outlook for 2024 suggests that although conditions may soften, effective deposit cost reductions should manifest increasingly as the year progressesRegarding long-term concerning non-performing loan pressures within key areas of lending, due to ongoing regulatory support and enhancements in the property sector, the probabilities of dramatic declines in margins and performance remain low.