China economy adjustment a key risk for APAC banks in 2015

As well as slowing growth in economies.

The rebalancing of China's economy and slowing growth in economies in Asia-Pacific (APAC) are likely to feature as key risks for banks in the region in the year ahead.

According to a release from Fitch Ratings, there are more banking systems with stable sector outlooks for 2015 than in 2014, despite pressures inhibiting growth, principally emanating from China.

Negative sector outlooks relate to China and some countries in emerging Asia, and they reflect challenges from slowing economic growth, loan book seasoning after an extended period of rapid growth and a combination of asset quality and capital issues.

Challenges faced by the Chinese financial system will continue to build in 2015 as the government works to rebalance economic growth away from investment and towards private consumption.

Here's more from Fitch Ratings:

GDP growth is currently projected to slow to 6.8% in 2015 and 6.5% in 2016, while credit/GDP will continue its unsustainable expansion to a forecast 260% at end-2015, even though credit growth will slow.

At the same time, the pressure on Chinese banks' asset quality will continue to build - particularly those extended to property, manufacturing and other industries burdened by overcapacity. These risks and on-going financial sector liberalisation will lead to a profit squeeze for the banks and drive a need for fresh bank capital in China.

A slowing China will also weigh on the region's prospects, with credit growth likely to also wane. Fitch views slower credit growth positively as it would help prevent overheating of some markets. But increased economic vulnerabilities may expose excessive risk that has been built up, triggering more material credit loses.

Rising direct exposure to China by APAC banks means there is an increased likelihood of risks being transmitted to regional financial centres such as Hong Kong/Macau, Singapore, and increasingly, Taiwan.

Other markets to watch include Thailand and Malaysia due to rising household debt. Lower inflation helped by reduced oil prices and monetary easing raise the possibility of lower interest rates for some markets, which will provide respite from asset-quality pressures.

India's improved political and economic conditions, with GDP growth forecast at 5.6% in the fiscal year ending March 2015 (FY15) and 6.5% in FY16 has helped stabilise the prospects for Indian banks.

While stressed assets will peak in early 2015, they remain high and the capital needs among banks, primarily the public sector banks, is large at around USD200bn as they migrate towards the Basel III framework. Similarly, banks in the Philippines and Sri Lanka are likely to benefit from buoyant economies.

The fundamentals of most APAC banks are healthy with earnings and capital buffers adequate to offset higher credit costs, while funding and liquidity profiles are comfortable to absorb currency pressures.

That said, Fitch expects capital raising by the regions' banks to gain momentum as issuers respond to both market and global regulatory trends. Chinese and Indian bank capital needs are the greatest and other systems such as Mongolia, Vietnam and Sri Lanka are also considered under-capitalised.

Internationally active APAC banks in more advanced systems such as Australia, Hong Kong, Japan and Singapore will likely raise capital in response to the higher market thresholds set by, in particular, the global banks and measures announced by the Financial Stability Board.

For South Korea, the sector outlook remains negative given an unsupportive regulatory, social and political environment. An ageing population adds to the challenges faced by banks in South Korea.

In Japan, the uncertainties around the future success of the country's economic reforms will put a damper on the operating environment for the country's major banks, whose earnings have been buoyed by optimism around "Abenomics".

Domestic operations still dominate the Japanese mega banks' revenues and assets, and so Fitch anticipates the banks pushing ahead with offshore expansion - organic and inorganic - to boost profitability. However, such expansion is likely to entail additional risk, as the banks expand their interests primarily in emerging markets.