Banking Net NPLs Soar to Multi-Year Highs in May, Cash Reserves Fall and as Deposit Liabilities Growth Stumble to Multi-Year Lows!

Asset-price inflation feels good because it translates into seemingly free and easy wealth for asset holders, but when it deflates, it tends to pull the rug out from under the banks and the broader financial system and it causes all kinds of other mayhem—Wolf Richter

In this issue:

Banking Net NPLs Soar to Multi-Year Highs in May, Cash Reserves Fall and as Deposit Liabilities Growth Stumble to Multi-Year Lows!

-As Credit Expansion Slowed, May Net NPLs Soar Past March Highs!

-Domestic Treasury Boom Buoys Bank’s Investment Gains; Steepening Yield Slope: Inflation to Comeback?

-Because Deposit Growth Falls to Multi-year Lows, Banks Panic Borrowing Anew in May!

-Summary; Forcing Up the PSE’s Banking Index!

Banking Net NPLs Soar to Multi-Year Highs in May, Cash Reserves Fall and as Deposit Liabilities Growth Stumble to Multi-Year Lows!

The Context Matters: Bank Credit Expansion Benefits the Elite Most!

Writes Alhambra’s Jeffrey Snider on the selective use of statistics to rationalize the previously promoted meme “global synchronized boom”:  (bold mine)

Numbers really don’t tell us much all by themselves. Context always matters. That’s why 19th century British statesman Benjamin Disraeli claimed there are three kinds of lies; lies, damned lies, and statistics. Numbers employed in isolation are either misleading or useless. In the 20th century, Darrell Huff wrote in his classic How To Lie With Statistics: “Averages and relationships and trends and graphs are not always what they seem. There may be more in them than meets the eye, and there may be a good deal less.”

From the Inquirer’s “Banking imbalance: Only 9.2% of loans for businesses that give more than half of Philippine jobs” (June 20, 2019): [bold added] “The array of small and medium-scale businesses that contribute up to 62.5 percent of employment and comprise 99.5 percent of all businesses in the Philippines were getting only 9.2 percent of loans and financing from the country’s major banks. These figures prompted the Union Bank of the Philippines to ask its fellow financial institutions to recognize the key role medium and small scale enterprises (MSMEs) play in the Philippine economy and allocate more of their money to help these MSMEs thrive, at least.

The context matters:

Since the end of 2007, total domestic bank credit expansion has grown by CAGR of 15.07%. Total bank credit hit a record Php 8.14 trillion in May, about 47% of the 2018 Nominal (n) GDP.

This news anecdote reveals of the vastly skewed allocation of resources, incited by the Bangko Sentral ng Pilipinas’ low-interest rate (inflation targeting) regime, thereby affecting the distribution of income and wealth in favor of the biggest consumers of credit.

Such policies have been influencing changes in the production and distribution structure by providing undue advantage to elite institutions over the rest. A great example of such a paradigm shift would be Jollibee’s business model, which highlights the transition from its erstwhile exemplary consumer-sensitive food chain model towards an M&A (merger and acquisition) “Pacman strategy”, as discussed last March. Jollibee’s Fantastic Paradigm Shift: From Consumer Value to Aggressive Debt-Financed Pacman Strategy March 3, 2019

The diminishment of competition from politically induced credit distribution subdues business or entrepreneurial dynamism that leads to market concentration or monopoly power in favor of large established firms.

The anecdote also reveals that whatever boom recently experienced by the (headline) economy, having been erected from massive credit expansion has mostly benefited such firms relative to grassroots entrepreneurship.

But it gets worse, not only has resource utilization been biased towards the largest credit consumers representing large established firms at the expense of the small and medium scale enterprises, such policies have compromised savers and pension holders.

Financial repression policies have been engineered to benefit the government principally through lower debt servicing, tax subsidies via magnified credit-fueled growth, and its private sector camarillas or cronies, the inflation tax and other means to capture private sector savings.

And to the extent that credit distribution has been slanted towards such firms…

As noted above, banks have structurally shifted their business model, since 2013, by putting the increasing weight of their income generation to interest income at the expense of non-interest income.

Banks have increasingly been embracing concentration risks!

The Banking System in Panic Borrowing Last December as 4Q NPLs Soar and Profit Growth Declined!  February 10, 2019

And because banks haven’t shared the same proportions of credit distribution…

That being the case, only a handful of banks have become responsible for the bulk of the industry’s credit expansion! In doing so, these banks are putting to the fore mounting systemic concentration risk.

Philippine Banks in a Seeming Panic 1.0: As Interest Margins Shrinks, Some Banks Lent Money at Unprecedented Rates to Generate ‘Profits’! November 25, 2018

Needless to say, not only would capital coordination errors incurred by these credit gorging firms prompt for financial losses but also liquidations that will boomerang into the banking system, and ricochet into the general economy. 

After all, there is no such thing as a permanent free lunch.

As Credit Expansion Slowed, May Net NPLs Soar Past March Highs!

The Bangko Sentral ng Pilipinas (BSP) reported that the banking system’s Net Non-Performing Loans (NPL) of 1.17% in May topped the February high of 1.16% relative to the industry’s Total Loan Portfolio (TLP).

Figure 1

The spike in May’s Net NPLs emerged in conjunction with the plunge in bank’s credit portfolio (TLP) growth of 10.3% from 12.57% in April and 11.29%. May’s TLP growth rate plumbed to a depth last seen in 2011. (figure 1, upper window)

Not even the BSP’s rate cut, which came into effect last May 10th, provided a floor to the ongoing slump of the Banking system’s TLP.

And NPLs have coincided with strains in the banking system’s cash reserves, as well as, in M3 or money supply growth. (figure 1, middle window)

And to put into the right perspective as shown by the BSP’s statistics, the ascension of NPLs commenced in 2017, and had its second leg up in December 2018. The thing is, rising NPLs haven’t been an anomaly but instead signifies a nascent trend.

The context matters: The correlations have causal linkages.

For an economic environment heavily dependent on credit expansion, increases in delinquencies eviscerate cash,thereby, leads to a drop in money supply in circulation and the banking system’s cash reserves.

Moreover, as banks husband their resources by limiting credit issuances, the growth of the real economy grinds down. Consequently, economic growth slowdown feeds into credit impairments that affect the banking system's financial statements.

However, in a world where negative yielding fixed income instruments have been spreading fast, from sovereigns to the far corners of junk and emerging markets bonds, rising domestic NPLs, falling bank credit, and shrinking cash reserves have eerily become foundations for credit upgrades, and Pollyannaish growth projections. (figure 1, lowest window)

The economic world turned upside down: The water flows uphill!

As a caveat, BSP data above represent declared NPLs, how about the shadow ones?

Domestic Treasury Boom Buoys Bank’s Investment Gains; Steepening Yield Slope: Inflation to Comeback?

If there has been anything going for the banking system, it’s the domestic treasury boom.

The historic stockpile of cash reserves from a record pace of borrowing by the National Government has helped create a perception of abundant liquidity in the financial system. Milestones from May: Panic Public Borrowing and Cash Hoarding, M1 Growth Crash, and Despite Slowdown, Bank Credit Hits Record (July 7, 2019)

Likewise, having been supported by a global panic bid on fixed income securities plus the BSP’s nudging for further pruning of policy rates in the wake of falling domestic CPI, the Philippine Treasury market continues to boom as manifested by steeply falling yields (soaring prices)!

The Federal Reserve Chairman Jerome Powell’s case for rate cuts adds to the cauldron of the prospect of more easy money for the US and global economy. As the CNBC reported (July 10), “Crosscurrents have reemerged,” Powell said. “Many FOMC participants saw that the case for a somewhat more accommodative monetary policy had strengthened. Since then, based on incoming data and other developments, it appears that uncertainties around trade tensions and concerns about the strength of the global economy continue to weigh on the U.S. economic outlook.”

Figure 2

While the banking system continues to burn cash, its liquid assets to deposits ratio expanded marginally to 48.34% from 47.91% a month ago, mainly from booming ‘financial assets’. (Figure 2, upper window)

While cash and due banks fell 4.67% in May lower than 4.88% a month ago, cash and due banks to deposit ratio inched higher to 18.81% in May from 18.58% in April from lower deposit growth.

Meanwhile, to mark the fourth consecutive month of profits, published investments zoomed 212.17% in May to Php 11.0 billion, the highest since the 3Q of 2016 and a followup on April’s 169.34% gains of Php 5.77 billion. (figure 2, middle window)

Exposure to direct equity investments of subsidiaries and joint ventures remained steady at 14.68% in May to Php 309.7 million slightly higher from Php 308.4 million or 14.27% higher a month ago. (figure 2, middle window)

Concealment of investment losses through accounting gymnastics have slowed, thanks to the Treasury boom. Held to Maturity (HTM) assets gained 24.15% in May, lower than 26.51% a month ago. However, only Held for Trading (HFT) assets outpaced HTMs which growth jumped 28.8% in May from 18.52% in April. Available for Sale (AFS) assets expanded 12.94% and 12.43% over the same period. Nevertheless, HTMs holds a commanding 66.33% share of gross Financial Assets while HFT and AFS has 25.6% and 7.5% share as of May.  (figure 2, lowest window)

Here is the thing. Despite the (artificial) boom, the banking system has remained ironically reluctant to increase their speculative exposure on the Treasury markets.

Why so? What’s keeping them?

Figure 3

Are banks expecting that the Treasury boom will come to an end soon?

While the shorter end continues to fall, Treasury yields at the longer end have risen last week.

A steepening slope indicates expectations of rising inflation. Are banks thus expecting a return of inflation, ergo higher rates? (figure 3, upper window)

And which sector should spur a resurgent CPI, a spike in National Government’s spending or will bank credit growth pick up soon, in spite of rising NPLs? Or will it be both?

Should banks resume the pickup in the pace of expansionary credit, will the escalating falling growth rates of bank deposit liabilities screech to a halt? And will the reinvigorated bank lending offset deflationary forces from credit delinquencies to heave money supply growth?

So far, the recent yield curve collapse has dovetailed with the plunge in the growth rate of M3 and bank deposit liabilities. (figure 3, middle window)

Because Deposit Growth Falls to Multi-year Lows, Banks Panic Borrowing Anew in May!

Changes in the banking system’s deposit growth rates have led bank lending activities. The former’s recent peak was in August 2017 even as TLP climaxed in May 2018 for a nine-month differential. Put this way, the rapid bank credit expansion through 2018 hasn’t diffused into the banking system’s deposit growth. While bank credit expansion did fire up statistical inflation, the industry continued to shed deposit liabilities!

There must have been a black hole in the banking system to have negated the flurry of credit issued by the banking system then!

As of May, growth in total deposit liabilities slid to 6.22% to almost match the 6.12% last March, the lowest growth rate since September 2012. (figure 3, lowest window)

The pullback in total deposit growth was primarily because peso deposit liabilities dropped 6.58% in May from 6.7% in April. That’s because the growth of peso savings crashed to 4.35%, from 6.52% a month back, the lowest growth rate since August 2012. Peso savings account for a 45.6% share of total deposit liabilities. (figure 3, lowest window)

Meanwhile, foreign currency deposits growth also dived to 4.4% in May from 6.12% a month ago.

Peso deposits have an 83.33% share of total deposits while foreign deposits have a 16.7% share.

Figure 4

With insufficient deposits, banks have solicited from the capital markets pricier sources for the replenishment of its funding requirements.

The supreme paradox has been despite cacophonous claims of the sector’s supposed profitability, why the seemingly endless cascade of their cash reserves?

The banking system’s Bonds payable doubled (117.91%) in May from a year ago to Php 349.7 billion while Bills payable soared 51.71% to Php 932.15 billion. Meanwhile, borrowing growth from the Long Term Negotiable Certificate of Deposits (LTNCD) tumbled to 8.8% to Php 223.6 billion. LTNCD’s grew by 18.6% in April to Php 233.6 billion. (figure 4, upper and middle window)

The banking system’s increased leveraging has sent the share Bonds payable as a percentage of total liabilities soaring to 2.34% from December 2018 at 1.82%!

Meanwhile, the share of liabilities of Bills payable contracted to 6.24% from December 2018’s 6.29%, and the share of LTNCD likewise dwindled to 1.5% from 1.59% during the same period.

And the tsunami of borrowings from this month (alone) should add to them.

From PSB (July 11): Philippine Savings Bank (PSBank), the thrift banking arm of the Metrobank Group, has decided to cut short the offer period for its maiden Peso Fixed Rate Bond issuance to July 5, 2019 from the original July 17, 2019 due to strong demand. The Bank raised Php 6.3 Billion from the offering versus the planned initial target issue size of Php 3.0 Billion. The 2-year Peso Fixed Rate Bonds was priced at 5.6% per annum with quarterly interest payments. The Bonds will be listed in the Philippine Dealing and Exchange Corporation (PDEX) on July 24, 2019.

From CHIB (July 10): China Banking Corporation (China Bank) successfully raised P30 billion as investors gobbled up its maiden issue of peso fixed rate bonds. The bonds were listed on the Philippine Dealing & Exchange Corp. (PDEx) on July 10, 2019.

From MBT (July 3): Metropolitan Bank & Trust Company (“Metrobank”) successfully raised PHP11.25 billion from its public offering of 2-year Peso bonds which was completed last 21 June 2019. This is the fourth issue out of Metrobank’s PHP100.0 billion Bond and Commercial Paper Program as approved by its Board of Directors last year. To accommodate robust demand from institutional, high net worth and retail clients, Metrobank’s initial target of PHP5.0 billion was upsized to PHP11.25 billion.

The principal factor behind the recent cuts of the BSP’s Reserve Rate Requirements (RRR) has been to release the bank’s resources to enhance liquidity conditions.

The first phase of the BSP takes effect on May 31st. The second on June 28th and the last on July 26th.

Such measures are unlikely to be efficacious, like the 2018 cuts, because it deals with the symptoms than the disease.

RRR cuts have been expanded to cover non-bank financials.

Summary; Forcing Up the PSE’s Banking Index!

Finally factors to consider:

-The Treasury boom has temporarily buoyed the banking system’s profits and assets.

-Generally, there have hardly been improvements in the industry’s liquidity and funding conditions, in spite of subsidies from the Treasury boom.

-Leveraging of the banking system continues to accelerate indicating sustained liquidity and capital strains. Capital ratios don’t reflect the true state of the banking system.

-With the structural shift in the industry’s business model towards total loan portfolio expansion, outside the gains from trading and investments, the falling rate of bank credit expansion should hardly be of help to the sector’s liquidity and profitability.

-And not only have the skidding rate of bank credit expansion have contributed to the tightening of the financial system, but it has spurred a spike in the Net NPLs!

Share prices of BDO, the biggest market cap bank, has been forcibly pushed upwards (through marking the close) in many of the recent sessions. Such actions appear to be designed to inspire bank issues to participate in the quest to redeem the sector's zenith in January 2018, as well as to propagate the PhiSYx back to the record high of 9,058. (figure 4, lowest window)

Bank stocks have been a drag to the grand delusions of glory from easy money policies.

Even if they succeed to do so, it just shows how detached the markets have been with reality.

The context always matters.