China may be hurting its own banks by forcing them to drop risky assets

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As for what experts are watching, Nomura analysts wrote that net interest margin and fees will be key.
The former is a measure of how successful a bank`s investment decisions are compared to its debt situation.
The latter, grouped under non-interest income in a bank`s balance sheet, is monies earned from the sale of financial products.
"Compared to bottom line growth .
we attach more importance to the [net interest margin] and fees trend, as well as banks` risk profile both on the balance sheet (receivables investment) and off the balance sheet (wealth management products)," the Nomura analysts wrote in a note this week.
"We see financial deleveraging to continue and banks still holding large exposure to such [riskier] assets either on or off the balance sheet to be under more pressure ahead," they added.
Such stress will be felt most by small and medium-sized banks, the profitability of which has been supported by funds raised through channels involving the shadow banking sector.
Questions about those lenders` resilience are a test of strength for China`s entire banking industry, noted Alice Guan, Phillip Securities` market specialist for Greater China.
A preliminary earnings report by mid-tier lender China Merchants Bank showed some signs of strains.
Non-interest income slipped 11 percent in the second quarter after jumping 47 percent in the previous three months.
That`s likely a result of the government`s crackdown on wealth management products.
Such products are commonly sold by banks to raise funds.
Before Beijing got tough, the lack of regulation in the space resulted in banks investing those proceeds in risky and struggling industries, or in other similar products — growing contagion risks in the system.
China Merchants Bank`s audited first half results are due on Aug.
Reports by its peers such as China Minsheng Bank will help to paint a fuller picture of the regulatory impact.
The country`s big five banks, likely to report in the last week of August, are expected to be relatively unscathed by the stricter regulatory environment given their larger capital buffers and ability to handle risks.
But the overall credit tightening could affect them down the road, with rising funding costs threatening profitability in what is turning out to be a tougher operating climate, Guan told CNBC.

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