KB Financial Group said in a conference call following its earnings announcement on the 23rd of this month that "the fallout from the Middle East situation still lingers, and high oil prices and a high exchange rate persist," adding that "a decline in the soundness of vulnerable borrowers, including small and medium-sized corporations, small business owners, and the self-employed, cannot be ruled out."
Indeed, the balance of non-performing loans (NPLs) — loans overdue for three months or more, classified as substandard or below — at the four major banks surged 24.1% from 4.5489 trillion won at the end of last year to 5.6444 trillion won as of the end of June this year. NPLs also rose 15.2% compared with the end of June last year.
Even excluding the one-off factor of the Joongang Group's corporate rehabilitation filing, the trend of expanding distress across the banking sector continued. Woori Bank's NPLs increased 22.8% over the same period, from 1.0985 trillion won to 1.3493 trillion won, while Shinhan Bank also rose 6.5%, from 1.1540 trillion won to 1.2293 trillion won. Kookmin Bank's NPLs fell 16.1%, owing to the sale and write-off of 279 billion won worth of bad loans during the second quarter.
Amid this situation, the impact felt by small and medium-sized enterprises and the self-employed is even greater. In fact, as the real estate market slump drags on, repayment burdens are growing, centered on regional small and mid-sized construction firms. At the end of June, the delinquency rates on SME loans related to the construction industry at Hana Bank and Shinhan Bank stood at 1.33% and 0.76%, respectively, far exceeding the average SME delinquency rates of 0.59% and 0.49%. The situation is also difficult for the lodging and dining industries, which are sensitive to the domestic demand slump. Woori Bank's delinquency rate on SME loans in the lodging and dining industries jumped from 0.62% at the end of last year to 0.73% at the end of June this year.
A risk management executive at one commercial bank said, "The impact of the Middle East situation will fully spread to the real economy starting in the second half, and regional construction firms taking the direct hit from rising raw material and construction costs are especially problematic." He added, "While large semiconductor companies are enjoying a boom, the number of marginal firms among small and mid-sized enterprises is on the rise, so we are closely watching the burden of new distress and provisioning."
A particular concern is that the Bank of Korea may raise its base rate further next month. The BOK raised the base rate by 0.25 percentage point from 2.50% to 2.75% per annum on the 16th of this month. Market rates have also risen rapidly, with the yield on three-year treasury bonds climbing to 3.959% per annum on the 24th of this month. This is the highest level since November 2, 2023 (3.979%). Brent crude futures also recorded $100.69 per barrel on the 23rd of this month, amid instability in the Middle East.
When interest rates and raw material prices rise simultaneously, companies face increases in both operating costs and interest expenses. If deteriorating profitability delays principal and interest repayments and delinquencies become prolonged, the loans in question are reclassified as NPLs, which can also increase banks' provisioning burdens.
The problem lies in financial firms' capacity to respond. While bad loans at the four major banks grew more than 24% in the first half of this year, loan loss provisions rose only about 2%, weakening loss absorption capacity.
The simple average NPL coverage ratio of the four major banks — KB Kookmin, Shinhan, Hana, and Woori — fell 26.0 percentage points in just six months, from 172.0% at the end of last year to 146.0% at the end of June this year. The NPL coverage ratio is loan loss provisions divided by NPLs. The higher the figure, the greater the capacity to absorb losses from bad loans using provisions set aside in advance.
By bank, Woori Bank saw the largest decline. Woori Bank's NPL coverage ratio fell 39.7 percentage points, from 172.6% at the end of last year to 132.9% at the end of June this year. Hana Bank also dropped 35.9 percentage points over the same period, from 136.3% to 100.4%. Shinhan Bank fell from 173.1% to 153.4%, and Kookmin Bank from 206.0% to 197.3%.
This is the result of provisioning failing to keep pace with the speed of growth in bad loans. Loan loss provisions at the four major banks rose just 1.9%, from 7.7822 trillion won at the end of last year to 7.9316 trillion won at the end of June this year. An official at one commercial bank explained, "We plan to pursue preemptive management by maintaining a conservative provisioning stance along with the sale and write-off of bad loans," but added, "the burden on earnings will grow accordingly."
