[1mm Finance Talk] Non-Performing Loans Rise at Banks... Crisis Response Capabilities Take a Step Back

NPL Ratios Rise at All Four Major Banks
Average Up 0.07 Percentage Points in a Year; Highest Levels in Six Years for Some
Banks' Response Under Scrutiny... Key Indicators Worsen
Provisions Increased, But Bad Loans Grew Even Faster
"Asset Quality Management Will Be the Biggest Challenge This Year"

As non-performing loans (NPLs) at major commercial banks have increased, raising concerns about asset quality, indicators reflecting banks' crisis response capabilities have actually worsened. Although banks have set aside more loan-loss provisions to prepare for potential defaults, the pace of provisioning has not kept up with the rise in bad loans, and banks have not taken aggressive action to clean up non-performing assets. With the economic downturn compounded by heightened uncertainty, there are growing expectations that more borrowers will be unable to repay their loans in the future, leading to the view that asset quality management will become the most critical challenge for banks this year.

According to the financial sector on April 29, the average NPL coverage ratio for the four major commercial banks (KB Kookmin, Shinhan, Hana, and Woori) in the first quarter of this year stood at 169.78% (based on simple summation). The ratios ranged from a minimum of 159.3% at Shinhan Bank to a maximum of 188.4% at Woori Bank, with all four banks falling below the 200% mark. Compared to the average of 228% in the first quarter of last year, when the ratios ranged from 208% to 279.5%, this represents a significant decline. The figure also plunged by 35.89 percentage points from the end of last year.

The NPL coverage ratio refers to the proportion of loan-loss provisions set aside to cover potential losses from non-performing loans. It is an indicator of how well a bank can absorb losses from bad loans. A higher NPL coverage ratio means the bank is better prepared for defaults. However, as borrowers' repayment capabilities have deteriorated, both the NPL ratio and delinquency rate have risen across the board, while banks' ability to respond has actually diminished.

Looking at the details, loan-loss provisions have not decreased. In line with a recent trend of taking a more conservative approach to loan assets, banks have collectively increased their loan-loss provisions in the first quarter of this year. Shinhan Bank expanded its provisions from 41.8 billion won in the first quarter of last year to 109.3 billion won this year, while Hana Bank increased its provisions from 47.3 billion won to 119.5 billion won. KB Kookmin Bank and Woori Bank also raised their loan-loss provisions.

The decline in the NPL coverage ratio despite the increase in provisions appears to be due to the fact that the pace of growth in non-performing assets, driven by the economic slowdown, has outstripped the pace of provisioning. For example, at KB Kookmin Bank, the volume of NPLs increased by 28% from 1.2549 trillion won in the first quarter of last year to 1.6056 trillion won in the first quarter of this year. Meanwhile, total loan-loss provisions rose by only 3.8%, from 2.6122 trillion won to 2.7117 trillion won. A commercial bank official stated, "The amount of substandard and below loans is increasing faster than expected," adding, "There are concerns about asset quality, especially among self-employed individuals and small and medium-sized enterprises."

The slowdown in the pace of non-performing asset clean-up has also contributed to the decline in the NPL coverage ratio. In the case of Shinhan Bank, the bank explained that it strategically reduced the scale of NPL write-offs and sales in the first quarter of this year, which led to an increase in substandard and below loans and a consequent drop in the NPL coverage ratio. Shinhan Financial Group stated during a conference call, "We strategically reduced the scale of NPL write-offs and sales due to unfavorable conditions and prices, which resulted in a lower coverage ratio."

However, despite the reduced capacity to absorb losses, the industry consensus is that the situation is not yet at an alarming level. In fact, banks' NPL coverage ratios before the COVID-19 pandemic were in the range of 100% to 140%. As calls grew for stronger crisis response capabilities, the ratios surged to above 200%. A commercial bank official commented, "It appears that the previously excessive ratio has partially come down," adding, "As long as the ratio remains above 120%, we do not believe it will impact financial soundness."

Nevertheless, as the NPL ratios at even the most conservative banks continue to rise, banks are closely monitoring both the pace of increase and their responses. In the first quarter of this year, the delinquency rates at the four major banks ranged from 0.32% to 0.37%, up from both a year ago and the end of last year. The NPL ratios also rose across the board, reaching 0.29% to 0.4%. KB Kookmin Bank (0.4%) recorded its highest level in five years and nine months, while Woori Bank (0.32%) saw its highest rate since the end of December 2020. Shinhan Bank (0.32%) also reached its highest level since the end of September 2021.

A banking sector official stated, "With uncertainty over U.S. tariff policies and concerns about low growth, there is a growing likelihood that borrowers' repayment capabilities will deteriorate further," adding, "Asset quality management will be the most important challenge for banks this year."