Business / Corporate

MUFG record profit masks vanishing loan earnings in Japan

Bloomberg

Record profits at Mitsubishi UFJ Financial Group Inc. and at least 26 of the nation’s banks mask vanishing returns on lending in Japan that’s spurring them to venture overseas.

Funding costs and administrative expenses related to operating hundreds of branches exceeded what the two largest lenders made on domestic loans and interest-earning assets in the year ended March 31.

MUFG’s net income still rose 5 percent in the period, while Mizuho Financial Group Inc. and Sumitomo Mitsui Financial Group Inc. both forecast higher profits. Overseas loans for the three climbed to more than $690 billion (about ¥85 trillion), roughly the size of Switzerland’s economic output.

Disappearing margins have yet to derail lending by Japanese banks, which rose 2.7 percent in April, almost twice the pace as when Prime Minister Shinzo Abe came to power in December 2012. The expansion overseas, which includes buying loans from Royal Bank of Scotland Group PLC, runs the risk of missteps as lenders venture into markets they aren’t so familiar with.

“(If) you think lending money in Japan is the dominant business, it is not anymore, the margins have been so squeezed,” said David Threadgold, the Tokyo-based Asian research head at Keefe Bruyette & Woods, a boutique investment bank. “They can hardly stop lending; if they stop lending they will still have deposits, they will still have the branches, they will still have all the costs.”

Record profit

Net income at MUFG rose to a record ¥1.03 trillion for the year ended March, helped by interest income on loans abroad. For this year, the Mizuho group forecasts a ¥630 billion profit and SMFG expects to earn ¥760 billion.

The latest financial results at the mega-banks “underscore how overseas operations are growing in importance and helping to lift profitability,” Fitch Ratings said in a report published Tuesday. “However, foreign expansion, especially in emerging markets, will entail incremental risk-taking which will need to be supported by higher levels of capital.”

Of 63 lenders in the Regional Banks Association of Japan that had reported full-year earnings, 26 posted record net income, Kazuyoshi Terakado, the chairman of the organization, said May 20.

The spread Mizuho made on domestic lending and interest-earning assets over what it pays out to depositors and creditors after expenses fell 6 basis points to minus 7 at the end of March at its main banking unit. It was minus 6 basis points at Bank of Tokyo-Mitsubishi UFJ Ltd., its earnings statements show.

Making money

“It is often said that you can’t make money lending domestically, and that is true,” Mizuho CEO Yasuhiro Sato said May 15. The bank is boosting noninterest revenue from clients as it seeks to leverage lending relationships, according to Sato.

Combined net income at the larger city banks in the first half rose by 9.1 percent, while profit at 64 regional lenders with more localized businesses only increased 0.2 percent, according to the Japanese Bankers Association.

The average interest rate on loans charged by 84 smaller lenders that are publicly traded declined 10 basis points in the year ended March, calculations by Nomura Holdings Inc. show.

Pressure to take increased risk by regional banks as asset yields grind lower may weaken their capital profiles and put pressure on their ratings, Moody’s Investors Service said in a statement on May 18.

‘Worse predicament’

Holdings of foreign securities by regional banks jumped ¥3.2 trillion to about ¥13 trillion in the 12 months to March, Bank of Japan data show, as the lenders sought to boost returns. Their holdings of Japanese government bonds fell 0.5 percent to ¥40.6 trillion during the same period.

“The regional banks are in an even worse predicament,” said David Marshall, a credit analyst at CreditSights Inc. in Singapore. They are “more vulnerable to taking on some questionable credits in this search for yield.”

Domestic bank lending has climbed for 43 straight months, compared with almost a decade of continual declines to January 2006, according to BOJ data.

“It is quite common that when banks expand in other countries they don’t know who the best borrowers are,” said Marshall. “It is only when things get tougher that they might be tested.”