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Finance

Bank stocks have yet to reflect Japan's recovery

TOKYO -- Japan's bank lendings have been on the rise thanks to growth sectors such as medical care and renewable energy. Demand for borrowings remain strong from big firms to finance their acquisitions.

Nationwide, bank loans saw a 2.8% year-on-year rise at the end of February, according to the Japanese Bankers Association. Even outside big cities, "structural changes are steadily taking place," said Takanobu Nakagawa, president of Tomato Bank, which is based in the southwestern prefecture of Okayama.

When looking at bank loans, then, Japan appears to be escaping deflation. But the stocks of the nation's major banks are performing poorly. The Nikkei Stock Average has declined by about 7% since the start of the year, but the stocks of three so-called megabanks have dropped an average of 12%. The projected average price-earnings ratio for these three lenders is about 9. The average figure for all companies listed on the first section of the Tokyo Stock Exchange is 16.

The burden of regulations

Some say bank stocks remain weak because Japanese banks are "caught up in global trends toward tighter regulations," Nana Otsuki of Merrill Lynch Japan Securities, said, referring to international rules on bank capital put in place since the financial crisis of 2008.

     The crisis did not hurt Japanese banks as badly as it did U.S. and European banks, but Japanese players have taken the brunt of tougher regulations due to their low proportions of common shares to capital. The three megabanks -- Mitsubishi UFJ Financial Group, Mizuho Financial Group and Sumitomo Mitsui Financial Group -- were forced to issue large amounts of shares in 2009 and 2010.

     Western banks remain under heavy pressure from ever-tightening regulations. Deutsche Bank decided to reduce its assets in the U.S. as a result of tougher American rules. In contrast, Japanese lenders are poised to increase loans.

     "Japanese lendings are expected to continue to grow steadily at about 3% year-on-year," said Hironari Nozaki, banking analyst at Citigroup Global Markets. There is a strong correlation between changes in bank loans and the unemployment rate with an about six-month lag, he said.

     Policy changes by Japanese regulators offer another tail wind. In its basic policy on monitoring banks announced last September, the Financial Services Agency said it would "respect financial institutions' own judgment" with regard to the risk assessment of small-lot loans. This amounted to the first relaxation by the FSA on bank oversight since the Financial Supervisory Agency, the FSA's predecessor, was established in 1998.

Change, eventually

Given these changes in conditions surrounding loans, it would be natural to think that investors' growth expectations for Japanese banks are mirrored in their share prices. But their average P/E ratio is actually lower than the 11 or so seen at Western rivals.

     In recent years, Japanese banks have seen narrowing margins between their fund-procurement costs and lending rates. They cannot boost profits if increased lendings are more than offset by a decline in margins. This situation is undoubtedly one reason for the weak bank stocks.

     The Japanese economy has made a dramatic turnaround in the three years since the March 11, 2011, disaster due to reconstruction demand and the Bank of Japan's unorthodox monetary easing.

     The latest data from Mizuho Bank shows signs that the narrowing of interest gaps between loans and deposits is coming to an end. Japan's economy may be on a recovery, but when will a resurgence be seen in bank stocks?

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