High Dividends May Sustain Banks' Investment Value

In the context of the overall market's risk appetite declining, the value of high dividend bank stocks has become prominent, coupled with low volatility characteristics, they continue to be favored by capital, and the investment value of banks supported by high dividends is still optimistic.

Looking at the insurance funds' holdings in the first quarter, the allocation margin of insurance to banks has increased, which is expected to form a subsequent capital follow-up, with a more obvious increase in the allocation to small and medium-sized banks.

In 2023, with the spring breeze of the "China Special Valuation" market, state-owned large banks ushered in a wave of increases, and in 2024, the market accelerated, and the high dividend small and medium-sized banks spread.

In the past two years, the dividend style has been unique, mainly because the stable growth policy is less than expected, the recovery of investment and consumption willingness in the real economy is slow, the economic recovery is lower than expected, the market risk appetite continues to decline, and the incremental capital mainly comes from low-risk preference institutions such as insurance and Shanghai-Hong Kong 300 ETF.

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At present, the global situation still faces great uncertainty.

Although there is little divergence in the current expectations for the Federal Reserve's interest rate cut in September, there is still a big divergence in whether the US economy will have a soft or hard landing and the extent of the interest rate cut, especially the US general election in November may also interfere with the actions of the Federal Reserve.

Based on this, it is expected that before the global situation becomes clear, the factors leading to the dividend market such as slow economic recovery and low capital risk appetite will not undergo a substantial reversal.

Stocks with low performance fluctuations and high dividends will continue to be an important direction for capital allocation.

Looking at the medium and long-term perspective, there is still room for the central point of risk-free interest rates to decline, and after the economic growth slows down, state-owned large banks with high dividends and small performance fluctuations have a good allocation value.

In contrast, small and medium-sized banks have higher liability costs, and their performance stability is obviously not as good as that of state-owned large banks, and the transaction attribute of small and medium-sized banks' allocated funds is stronger.

Since the beginning of 2023, the high dividend strategy has spread from state-owned large banks to small and medium-sized banks.

Since the beginning of 2023 (as of August 21, 2024), the cumulative increases of Bank of Communications, Agricultural Bank of China, Bank of China, and Industrial and Commercial Bank of China are 88.4%, 87.9%, 74.8%, and 62.8% respectively.

In 2024, the high dividend strategy has spread to small and medium-sized banks such as CITIC Bank, Nanjing Bank, Chengdu Bank, Chongqing Rural Commercial Bank, and Shanghai Rural Commercial Bank, with cumulative increases of 31.8%, 45%, 39.1%, 34.8%, and 28.4% respectively.

Why buy bank stocks?

The simplest answer is that the economic recovery is lower than expected, the market risk appetite has declined, and the dividend strategy is superior.

In 2023, under the leadership of the "China Special Valuation" market, investors have paid attention to the revaluation of the value of central enterprises and state-owned enterprises.

Due to the economic recovery not meeting expectations after the comprehensive release of the epidemic, the market risk appetite has declined significantly, and the investment value of high dividend stocks has become more prominent.

Therefore, in the past two years, the dividend style has been unique, and A-shares and Hong Kong stocks have achieved significant excess returns.

Since the second half of 2023, due to the stable growth policy not meeting expectations, the recovery of residents' and enterprises' investment and consumption willingness has been slow.

Especially in China's real estate is in a downward cycle, domestic demand is insufficient, and counter-cyclical policies are urgently needed to boost market confidence.

However, the US economic growth is strong, and the monetary policy is in an interest rate hike cycle, which has formed a clear constraint on China's loose monetary policy.

At the same time, in the past two years, the net interest margin of China's banking industry has declined significantly to a low level, and the profitability has declined.

The importance of maintaining the interest margin and preventing risks has been continuously increasing, which also imposes certain constraints on the loose monetary policy.

Under the dual constraints of external exchange rate stability and internal interest margin stability and risk prevention, since August 2023, the price-based monetary policy has been "on hold".

Until the interest rate cut in July this time, only the 5-year LPR decreased by 25BP in February 2024.

Looking at the incremental capital in the market, it mainly comes from the expansion of low-risk preference funds such as insurance funds and Shanghai-Hong Kong 300 ETF.

Due to the continuous decline in risk-free interest rates and the decline in residents' risk appetite, premium income has achieved good growth since 2023, becoming the main source of incremental capital in the capital market.

State-owned large banks have long been favored by insurance funds due to their stable high dividends.

In addition, at the beginning of the year, due to the impact of liquidity risk and other factors, the capital market fell sharply.

In order to stabilize the market and alleviate the liquidity crisis, the Central Huijin increased the increase of ETFs, and it is expected that the Shanghai-Hong Kong 300 ETF is its important increase variety.

At present, the scale of Shanghai-Hong Kong 300 ETF has reached 908.7 billion yuan, an increase of 474.2 billion yuan compared to the beginning of the year.

Looking at the industry weight of Shanghai-Hong Kong 300, banks account for 13.2%, ranking first.

Looking at the heavy stocks of active public funds (common stock funds and mixed funds, but excluding debt-biased mixed funds), the proportion of bank stocks held by public funds in 2023 and the first half of 2024 accounted for the total market value of the bank sector, which was lower than in 2022, mainly because active public funds reduced their holdings of stocks such as China Merchants Bank, Postal Savings Bank, Ningbo Bank, and Changshu Bank, which were high-growth stocks in the previous period.

The proportion of the market value of state-owned large banks held by public funds accounted for the total market value of large banks has increased.

Looking at the proportion of the market value of bank stocks held by active public funds accounted for the market value of fund stock investments, the proportion of state-owned large banks has continued to increase since 2023, and the proportion of small and medium-sized banks in 2023 has declined, but the proportion in 2024 has also increased, which is in line with the phenomenon of the high dividend strategy spreading to small and medium-sized banks in 2024.

The proportion of state-owned large banks held by active public funds increased from 2022 to 2023, and the proportion of small and medium-sized banks held in 2024 also increased, but overall, the proportion of bank stocks held by active public funds is very low, accounting for less than 2% of the market value of fund stock investments, and is not the main driving force of this round of bank market.

In the past two years, the performance of state-owned large banks has continued to decline, but the market has already reflected the extremely pessimistic expectations.

With the frequent issuance of real estate maintenance policies and the orderly progress of local government debt, the market's expectations of current bank credit risk have also improved.

In November 2022, the average PB of the five major banks was reduced to 0.45 times, which has already reflected the extremely pessimistic expectations.

Looking at the overseas experience, after the collapse of the Japanese real estate bubble, the economy has been in a stagnant environment of low interest rates and low growth for a long time.

After a round of bad exposure and clearing, the Japanese banking industry's ROE center has been maintained at about 5%, and the PB valuation center is almost 0.4-0.5 times.

From the perspective of dividends, if the ROE is 5% and the dividend payout ratio is 40%, the corresponding dividend rate for the PB value of 0.4-0.5 times is 4%-5%.

Based on this analysis, when the PB value of China's five major banks fell to about 0.45 times, it actually reflected the extremely pessimistic expectation that the future ROE would fall to about 5%.

However, in reality, under the Japanese main bank system, from 1980 to 1995, the proportion of Japanese bank credit investment in the construction industry, real estate industry, and financial industry continued to increase.

In 1995, the combined proportion of the three industries' credit reached 51.4%.

After the collapse of the real estate bubble, the proportion of Japanese banks' loans to the real estate industry did not decrease but increased.

Compared with Japan, the proportion of Chinese bank credit investment in real estate and construction is not high, and this proportion has been declining in recent years.

Therefore, the risk of Chinese banks in the real estate field is expected to be significantly lower than the risk faced by the Japanese banking industry in the 1990s.

More importantly, the transformation effect of China's high-quality economic development is obvious, the economic resilience is strong, and the economic outlook is obviously better than that of Japan.

State-owned large banks may be favored by long-term allocation funds as analyzed above.

In the past two years, the dividend strategy has been unique, mainly because the economic recovery is lower than expected, the market risk appetite has declined, and the incremental funds mainly come from low-risk preference institutions such as insurance and Shanghai-Hong Kong 300 ETF.

Looking forward to the fourth quarter of 2024, it is judged that before the US general election, the global environment still faces great uncertainty, and the low-risk preference strategy is likely to continue to be superior.

In the past two years, China's exports have achieved good growth, but the current US economic downward pressure is prominent, which is expected to bring significant disturbances to the global economy, and the export growth trend is difficult to continue.

Therefore, domestic demand is crucial for future economic growth, but domestic demand recovery is slow, and the growth rate of residents' disposable income has not returned to the pre-epidemic level.

The trend of residents' savings regularization has not been alleviated, and strong policy stimulus is needed to boost residents' confidence, but short-term monetary policy is still constrained by factors such as economic growth uncertainty.

Although the Federal Reserve is likely to cut interest rates in the future, whether the US economy will have a soft or hard landing and the extent of the interest rate cut are uncertain, especially the US general election in November will interfere with the actions of the Federal Reserve to a certain extent, and the impact on the US economy is also uncertain.

Therefore, even if the current RMB depreciation pressure has been alleviated to a certain extent, facing such an uncertain global environment, it will still constrain China's monetary policy in the short term.

Overall, it is expected that before the global situation becomes clear, the early economic recovery will be slow, and the incremental capital in the market will mainly come from insurance and other low-risk preference institutions will not undergo a substantial reversal.

Therefore, stocks with low performance fluctuations and high dividends will continue to be an important direction for capital allocation.

Compared with state-owned large banks, small and medium-sized banks have higher liability costs, and their performance stability is obviously not as good as that of state-owned large banks.

Compared with the main demand for large bank allocation, the transaction attribute of small and medium-sized banks' funds may be stronger, and the stability of funds is weaker than that of state-owned large banks, and it is no longer recommended to recommend high dividend attributes of small and medium-sized banks in the short term.

Looking at the medium and long-term perspective, state-owned large banks also have good allocation value.

In the past two years, although the profitability of banks has continued to decline, the current ROE of state-owned large banks is still above 9%, and the PB valuation is about 0.7 times.

Compared with overseas, the ROE of China's large banks is at a higher level, but the valuation is not high.

In the medium and long term, there is still room for the central point of risk-free interest rates to decline, and after the economic growth slows down, "low valuation + high dividend" state-owned large banks may be favored by long-term allocation funds.Insurance is expected to form a follow-up bank allocation of funds to take over the bank stock market, which often appears in the economic expectation turning good, and monetary policy or financing policy turning loose intervals.

Over the past 10 years, there have been five significant market movements in bank stocks, and when reviewing the macroeconomic environment at the time, they were mostly in the stage of economic expectations turning good and monetary policy or financing policy shifting from tight to loose.

This also implies an improvement in expectations for fundamental indicators such as bank credit growth and asset quality.

In 2024, the bank stock market is different from the past.

The market since 2024 has been mainly related to the low dividend volatility attribute.

Although the trading logic of bank stocks has gone through the process of high dividends - high-quality performance growth - real estate policy bottoming out, the main logic has always been that against the current background of asset scarcity and reduced risk preference of funds, high dividends and low volatility attributes make banks have a high allocation value.

Looking vertically, as of August 2nd, the Shenwan Bank Index PB valuation is 0.48 times, located at the 18.5% percentile level of the past 5 years, below the average PB by one standard deviation.

Looking horizontally, the bank PB valuation is at the lowest level among the 31 Shenwan first-level industries, but the ROE ranking is in the upper-middle level.

The low valuation mainly reflects the market's pessimistic expectations for fundamental indicators such as bank net interest margins and asset quality.

In recent years, the net interest margin of banks has continued to narrow, and the exposure of risks in the real estate industry has also increased the market's concerns about the quality of the underlying assets of banks.

However, on the whole, the current bank valuation has over-reflected the pessimistic expectations for the fundamentals.

Looking forward, the decline in bank net interest margins is expected to narrow on a quarterly basis, asset quality has certain protection under the bottoming out of real estate policies, and in recent years, the regulatory standards for bad asset recognition and provision for banks have been relatively strict, and the safety margin of asset quality is relatively high, which can support the subsequent repair of bank valuations.

Against the background of market interest rates falling and reducing financing costs, high-interest assets continue to be in short supply.

The government's debt-to-equity conversion has entered deep water, and the promotion of debt-to-equity conversion will inevitably be accompanied by a reduction in financing costs.

The interest rate trend of municipal bonds is downward; coupled with the downward trend of market interest rates and the implementation of the new asset management regulations, the yield of bank wealth management and trust products with a large amount of municipal bonds continues to fall, and the current one-year bank wealth management product expected annual return rate is only 3.15%.

The allocation value of bank high dividends is highlighted, and with low volatility characteristics, it continues to be favored by funds.

As of August 2nd, the Shenwan Bank Index dividend yield is 5.27%, and the premium over the 10-year government bond yield is 3.15%, still at a historical high level, and the allocation value of fixed income is highlighted.

Against the background of the overall market risk preference falling, the asset attributes of high dividends + low volatility of banks make funds continue to allocate.

So far this year, the increase in the Shenwan Bank Index has reached 15.04%, ranking first among the 31 Shenwan first-level industries.

As of the end of the first quarter of 2024, the proportion of bank stocks held by actively managed funds (stock-oriented + stock type) is 1.74%, up 26BP month-on-month.

Although the public offering of bank stocks has increased, it is still at a relatively low level in recent years, underweighting the market value of the Shanghai-Hong Kong Stock Connect by 10.66%.

Although the public offering of bank stocks is obviously under-allocated, the continuous expansion of ETFs will drive up the proportion of bank allocation.

The overall performance of actively managed funds is not good, and investors are more inclined to use passive investment strategies, increasing the demand for investment in ETFs.

At the same time, the regulatory authorities have accelerated the issuance speed of ETFs and introduced the ETF interconnect mechanism, and the public offering of funds has increased the issuance of ETF products, and ETFs have achieved rapid expansion.

As of the end of the first half of 2024, the total scale of ETFs reached 1813.45 billion yuan, an increase of 45.4% year-on-year; among them, the scale index ETF reached 1248.16 billion yuan, an increase of 106.7% year-on-year; the proportion reached 68.8%, an increase of 20.43% year-on-year.

With the continuous expansion of ETFs, especially scale index ETFs, the proportion of bank stocks has been significantly increased.

The new standard switch and the downward trend of interest rates have increased the attractiveness of high dividend assets to insurance funds.

The main components of net investment income are interest income and dividend income.

The downward trend of interest rates and asset scarcity have increased the difficulty of fixed income asset allocation for insurance funds.

The interest income of traditional bonds is under pressure, and under the new standards, insurance companies can include high dividend assets in other comprehensive income (OCI), increasing dividend income to offset the downward trend of bond interest income.

At the same time, the fair value changes of OCI assets will not directly affect the current profit and loss, and can appropriately ignore the impact of the volatility of high dividend assets, and can also play a role in smoothing profit fluctuations.

The marginal increase in insurance allocation to banks is expected to form a follow-up fund to take over.

Looking at the proportion of bank stocks held by insurance funds in the first quarter, the proportion of bank stocks allocated by insurance funds has increased, and the increase in allocation to small and medium-sized banks is more obvious, such as Zhejiang Commercial Bank, Bank of Beijing, Wuxi Bank.

Although the attractiveness of bank stocks to insurance funds has increased, there are still some banks with higher dividend rates that have not yet entered the top ten circulating shareholders of insurance funds, such as Shanghai Bank, Chengdu Bank, Jiangsu Bank, etc., and there is still room for the high dividend allocation logic of insurance funds.