Vietnam commercial banking report q4 2011

Business Environment Outlook Commercial Banking Business Environment Ratings Table: Vietnam’s Commercial Banking Business Environment Rating Limits of potential Growth in total assets

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All information contained in this publication is

BANKING REPORT Q4 2011

INCLUDING 5-YEAR INDUSTRY FORECASTS TO 2015

Part of BMI’s Industry Report & Forecasts Series

Published by: Business Monitor International

Copy deadline: September 2011

CONTENTS

Executive Summary 5

Table: Levels (VNDbn) 5

Table: Levels (US$bn) 5

Table: Levels At August 2010 5

Table: Annual Growth Rate Projections 2011-2015 (%) 6

Table: Ranking Out Of 59 Countries Reviewed In 2011 6

Table: Projected Levels (VNDbn) 6

Table: Projected Levels (US$bn) 7

SWOT Analysis 8

Vietnam Commercial Banking SWOT 8

Vietnam Political SWOT 8

Vietnam Economic SWOT 9

Vietnam Business Environment SWOT 10

Business Environment Outlook 11

Commercial Banking Business Environment Ratings 11

Table: Vietnam’s Commercial Banking Business Environment Rating 11

Commercial Banking Business Environment Rating Methodology 12

Table: Asia Commercial Banking Business Environment Ratings 13

Global Commercial Banking Outlook 14

Asia Banking Sector Outlook 18

Table: Banks’ Bond Portfolios 30

Table: Asia Commercial Banking Business Environment Ratings 31

Table: Comparison Of Loan/Deposit, Loan/Asset And Loan/GDP Ratios 32

Table: Anticipated Developments In 2011 33

Table: Comparison Of Total Assets, Client Loans And Client Deposits, 2009-2010 (US$bn) 34

Table: Comparison Of Per Capita Deposits, 2010 (US$) 35

Table: Interbank Rates And Bond Yields, 2010-2011 36

Vietnam Banking Sector Outlook 37

Economic Outlook 40

Table: Vietnam Economic Activity, 2008-2015 42

Company Profiles 43

Table: Key Statistics For MHB Bank, 2006-2008 (VNDmn) 52

Habubank 53

Table: Key Statistics For Habubank, 2004-2007 (VNDmn) 54

Eximbank Bank 55

Table: Balance Sheet (VNDmn, unless stated) 56

Table: Balance Sheet (US$mn, unless stated) 56

Table: Key Ratios (%) 56

Sacombank 57

Table: Stock Market Indicators 58

Table: Balance Sheet (VNDmn, unless stated) 58

Table: Balance Sheet (US$mn, unless stated) 59

Table: Key Ratios (%) 59

Saigonbank 60

Table: Stock Market Indicators 60

Table: Balance Sheet (VNDmn, unless stated) 61

Table: Balance Sheet (US$mn, unless stated) 61

Table: Key Ratios (%) 61

SeABank 62

Table: Balance Sheet (VNDmn, unless stated) 62

Table: Balance Sheet (US$mn, unless stated) 63

Table: Key Ratios (%) 63

BMI Banking Sector Methodology 64

Commercial Bank Business Environment Rating 65

Table: Commercial Banking Business Environment Indicators And Rationale 66

Table: Weighting Of Indicators 67

Executive Summary

Table: Levels (VNDbn)

Date

Total assets

Client loans

Bond portfolio Other

Liabilities &

capital Capital

Client deposits Other

Source: BMI; Central banks; Regulators

Table: Levels (US$bn)

Date

Total assets

Client loans

Bond portfolio Other

Liabilities

& capital Capital

Client deposits Other

Source: BMI; Central banks; Regulators

Table: Levels At August 2010

Loan/deposit ratio Loan/asset ratio Loan/GDP ratio

Table: Annual Growth Rate Projections 2011-2015 (%)

Source: BMI

Table: Ranking Out Of 59 Countries Reviewed In 2011

Table: Projected Levels (US$bn)

SWOT Analysis

Vietnam Commercial Banking SWOT

Strengths ƒ Rapid growth

ƒ Untapped potential

Weaknesses ƒ Domestic banks lack capital and technology to sustain high credit growth

ƒ The financial accounts of many banks are still opaque

Opportunities ƒ Population still under-banked

ƒ Income levels likely to rise strongly over the medium term

Threats ƒ Macroeconomic instabilities threaten the credibility of the government and could

potentially economic policy away from further liberalisation

Vietnam Political SWOT

Strengths ƒ The Communist Party of Vietnam remains committed to market-oriented reforms and

we do not expect major shifts in policy direction over the next five years The party system is generally conducive to short-term political stability

one-ƒ Relations with the US have witnessed a marked improvement, and Washington sees Hanoi as a potential geopolitical ally in South East Asia

Weaknesses ƒ Corruption among government officials poses a major threat to the legitimacy of the

ruling Communist Party

ƒ There is increasing (albeit still limited) public dissatisfaction with the leadership’s tight control over political dissent

Opportunities ƒ The government recognises the threat that corruption poses to its legitimacy, and has

acted to clamp down on graft among party officials

ƒ Vietnam has allowed legislators to become more vocal in criticising government policies This is opening up opportunities for more checks and balances within the one-party system

Threats ƒ Macroeconomic instabilities in 2010 and 2011 are likely to weigh on public acceptance

of the one-party system, and street demonstrations to protest economic conditions could develop into a full-on challenge of undemocratic rule

ƒ Although strong domestic control will ensure little change to Vietnam’s political scene

in the next few years, over the longer term, the one-party-state will probably be unsustainable

ƒ Relations with China have deteriorated over recent years due to Beijing’s more assertive stance over disputed islands in the South China Sea and domestic criticism

of a large Chinese investment into a bauxite mining project in the central highlands,

Vietnam Economic SWOT

Strengths ƒ Vietnam has been one of the fastest-growing economies in Asia in recent years, with

GDP growth averaging 7.2% annually between 2000 and 2010

ƒ The economic boom has lifted many Vietnamese out of poverty, with the official poverty rate in the country falling from 58% in 1993 to 20% in 2004

Weaknesses ƒ Vietnam still suffers from substantial trade, current account and fiscal deficits, leaving

the economy vulnerable to global economic uncertainties in 2011 The fiscal deficit is dominated by substantial spending on social subsidies that could be difficult to withdraw

ƒ The heavily-managed and weak dong currency reduces incentives to improve quality

of exports, and also serves to keep import costs high, thus contributing to inflationary pressures

Opportunities ƒ WTO membership has given Vietnam access to both foreign markets and capital,

while making Vietnamese enterprises stronger through increased competition

ƒ The government will in spite of the current macroeconomic woes, continue to move forward with market reforms, including privatisation of state-owned enterprises, and liberalising the banking sector

ƒ Urbanisation will continue to be a long-term growth driver The UN forecasts the urban population to rise from 29% of the population to more than 50% by the early 2040s

Threats ƒ Inflation and deficit concerns have caused some investors to re-assess their hitherto

upbeat view of Vietnam If the government focuses too much on stimulating growth and fails to root out inflationary pressure, it risks prolonging macroeconomic instability, which could lead to a potential crisis

ƒ Prolonged macroeconomic instability could prompt the authorities to put reforms on hold, as they struggle to stabilise the economy

Vietnam Business Environment SWOT

Strengths ƒ Vietnam has a large, skilled and low-cost workforce, that has made the country

attractive to foreign investors

ƒ Vietnam’s location – its proximity to China and South East Asia, and its good sea links – makes it a good base for foreign companies to export to the rest of Asia, and beyond

Weaknesses ƒ Vietnam’s infrastructure is still weak Roads, railways and ports are inadequate to

cope with the country’s economic growth and links with the outside world

ƒ Vietnam remains one of the world’s most corrupt countries Its score in Transparency International’s 2010 Corruption Perceptions Index was 2.7, placing it in 22nd place in the Asia-Pacific region

Opportunities ƒ Vietnam is increasingly attracting investment from key Asian economies, such as

Japan, South Korea and Taiwan This offers the possibility of the transfer of tech skills and knowhow

high-ƒ Vietnam is pressing ahead with the privatisation of state-owned enterprises and the liberalisation of the banking sector This should offer foreign investors new entry points

Threats ƒ Ongoing trade disputes with the US, and the general threat of American

protectionism, which will remain a concern

ƒ Labour unrest remains a lingering threat A failure by the authorities to boost skills levels could leave Vietnam a second-rate economy for an indefinite period

Business Environment Outlook

Commercial Banking Business Environment Ratings

Table: Vietnam’s Commercial Banking Business Environment Rating

Limits of potential

Growth in total assets;

Long-term policy

Commercial Banking Business Environment Rating Methodology

Since Q108, we have described numerically the banking business environment for each of the countries

surveyed by BMI We do this through our Commercial Banking Business Environment Rating (CBBER),

a measure that ensures we capture the latest quantitative information available It also ensures consistency across all countries and between the inputs to the CBBER and the Insurance Business Environment Rating, which is likewise now a feature of our insurance reports Like the Business Environment Ratings

calculated by BMI for all the other industries on which it reports, the CBBER takes into account the

limits of potential returns and the risks to the realisation of those returns It is weighted 70% to the former and 30% to the latter

The evaluation of the ‘Limits of potential returns’ includes market elements that are specific to the banking industry of the country in question and elements that relate to that country in general Within the 70% of the CBBER that takes into account the ‘Limits of potential returns’, the market elements have a 60% weighting and the country elements have a 40% weighting The evaluation of the ‘Risks to

realisation of returns’ also includes banking elements and country elements (specifically, BMI’s

assessment of long-term country risk) However, within the 30% of the CBBER that take into account the risks, these elements are weighted 40% and 60% respectively

Further details on how we calculate the CBBER are provided at the end of this report In general, though, three aspects need to be borne in mind in interpreting the CBBERs The first is that the market elements

of the ‘Limits of potential returns’ are by far the most heavily weighted of the four elements They

account for 60% of 70% (or 42%) of the overall CBBER Second, if the market elements are significantly higher than the country elements of the ‘Limits of potential returns’, it usually implies that the banking sector is (very) large and/or developed relative to the general wealth, stability and financial infrastructure

in the country

Conversely, if the market elements are significantly lower than the country elements, it usually means that the banking sector is small and/or underdeveloped relative to the general wealth, stability and financial infrastructure in the country Third, within the ‘Risks to the realisation of returns’ category, the market elements (ie: how regulations affect the development of the sector, how regulations affect competition

within it and Moody’s ratings for local currency deposits) can be markedly different from BMI’s

long-term risk rating

Table: Asia Commercial Banking Business Environment Ratings

Limits of Potential Returns Risks to Potential Returns Overall Market

Structure

Country Structure Market Risks Country Risks Rating Ranking

Global Commercial Banking Outlook

A Crucial Point For Global Banks

The global banking sector is at a potential turning point Concerns over banking system solvency are rising as sovereign debtors in developed states are put under increasing scrutiny Private sector

deleveraging threatens not only asset and loan growth, but also the economic growth required to keep loan performance sustainable On the positive side, monetary policy is set to remain very accommodative

in developed states; this is increasingly likely to become the case in emerging markets as inflation fears give way to growth concerns This should keep short-term borrowing costs low However, this is going hand-in-hand with a weaker growth profile, which will ensure that deflation and higher default rates remain a risk Global growth momentum is slowing, and we have lowered our real GDP expansion

forecast for 2011 to 3.2% from 3.5% We continue to believe that the world will avoid a double-dip

recession, and our 2012 global growth number represents a relative improvement upon 2011 However, with several key economies stalling, including those of the US, eurozone and China, significant risks remain

In general our country banking sector forecasts incorporate faster growth in emerging markets than in developed states, but the post-2008 crisis period is unlikely to be as dynamic as the preceding decade in terms of banking sector growth Furthermore, increasingly onerous regulations on capital adequacy ratios and lending standards will constrain earnings growth for years to come, particularly in developed states Here, we explain our banking sector views on a regional basis:

ƒ US and eurozone: The eurozone banking sector is under major duress as the integrity of the

monetary bloc itself is thrown into question Macroeconomic headwinds have increased markedly over recent months as the eurozone sovereign debt crisis intensifies Core European banks are now in the line of fire due to the significant exposure such firms have via their peripheral bond holdings, subsidiary operations and faltering confidence within the interbank market In the US, a potential double-dip recession would curtail the fragile recovery in bank lending and push up loan default rates The loss of the government’s AAA sovereign credit rating on August 5 also throws up major questions for financial institutions, including whether money market funds and borrowing collateral will be affected by Treasury holdings being rated below AAA

Set To Stall?

Eurozone – Total Loans To Non-MFIs Excluding General Government, EURbn

Source: BMI

ƒ Emerging Europe: Overall, a continued recovery in growth remains our core scenario for

emerging European commercial banking sectors The return of access to international capital markets, positive economic growth, and greater confidence in the macroeconomic outlook has seen deposit volumes surge, bolstering balance sheets While banks in the hardest hit countries had been hesitant to extend credit to their respective domestic economies initially, instead placing large cash positions in government securities, this situation seems to be turning, with credit growth across emerging Europe picking up steam However, we caution that significant risks to banking sector stability persist We highlight Turkey, Ukraine and south eastern Europe

as particularly vulnerable to negative shocks

Three-Speed Emerging Europe

Emerging Europe – Banking Sector Client Loan Growth

Source: BMI, central banks

ƒ Emerging Asia: We are concerned about several potential global risks to the Asian banking

sectors In the case of Europe, the risk of a freeze on bank lending to Asia as seen in 2009 is acute There are several possible channels through which a eurozone crisis could impact Asia’s banking sectors, including direct losses on exposure to eurozone assets; withdrawal of portfolio assets in Asia by European banks; contagion leading to concerns over the region’s fiscal weak links; and a reduction in European bank lending to Asia In the case of the US, the largest risk appears to be a double-dip recession, which we believe would lead to a hard landing for the Chinese

ƒ Latin America: We believe the deterioration in investor perceptions of the Latin American

consumer will continue to weigh on banks’ performances over the next few months Yet while several economies are at risk from excessive consumer leveraging, we do not believe this warrants a downgrade to our constructive outlook for the sector as a whole Of all the major regional economies, Brazil is most at risk from excess leveraging

Brazil, Chile And Panama Stand Out

Latin America – Consumer Credit, % GDP

Source: BMI, FELEBAN

ƒ Middle East and North Africa: Despite the more difficult operating environment that has

arisen as a result of the regional political turmoil, the outlook for the majority of banks across the Middle East and North Africa (MENA) region remains cautiously optimistic Certainly, our core views on the diverging outlook for financial institutions remains in play, with banks located in politically stable hydrocarbon-rich states in the Gulf fundamentally better positioned than those located or heavily exposed to North Africa and the Levant, as we head into the latter months of

2011

ƒ Sub-Saharan Africa: The region’s major banking sectors (South Africa, Nigeria and Kenya) are

all continuing their recoveries, albeit with varying degrees of strength Forecast strong economic growth will boost incomes, which will in turn enable an increase in deposits and greater take-up

of banking services Rebounding economic activity and improved liquidity are bolstering banking sector growth

Asia Banking Sector Outlook

Assessing the Contagion Risks of the European and US Crises

With European and US economies facing fiscal crises, banking sector instability and serious downside growth risks, Asia is heavily exposed through a number of linkages In the case of Europe, the risk of a freeze on bank lending to Asia as seen in 2009 is acute, while strong trade links suggest a eurozone recession would hurt the region’s export powerhouses In the case of the US, the largest risk appears to be

a double-dip recession, which we believe would trigger a Chinese hard landing

Part I: Eurozone Banking Crisis

Despite recent positive developments with regard to the debt problem in the eurozone, we continue to believe that a Greek default is on the cards over the medium term and see banking sector instability as a major risk With this in mind, we look to assess the potential threats facing Asian economies from some kind of eurozone financial crisis

There are five possible channels through which a eurozone crisis could impact Asia: 1) direct losses on exposure to eurozone assets; 2) withdrawal of portfolio assets in Asia by European banks; 3) contagion leading to concerns over the region’s fiscal weak links; 4) a reduction in European bank lending into Asia; and 5) a disruption in EU-Asia trade flows

1 Direct Losses On Exposure To Eurozone Assets – Minimal Risk: In terms of direct exposure to

the eurozone and Portugal, Ireland, Italy, Greece and Spain (collectively known as the PIIGS), Asia does not appear to face much of a risk According to the IMF’s Coordinated Portfolio Investment Survey, regional average portfolio investments in the eurozone were just 7.4% of GDP in 2009, with direct exposure to the PIIGS at just 1.7% of GDP Moreover, this was dominated by Hong Kong (and, to a lesser extent, Singapore and Japan), for which portfolio assets held in the eurozone represent a tiny fraction of their overall external assets Even in the unlikely event that these assets suffered complete losses, the actual damage caused to Asian financial systems would be

minimal Hong Kong and Singapore appear to be most at risk from this channel

Direct Exposure To The PIIGS Is Minimal, Eurozone More Significant

Asia – Portfolio Investment In PIIGS & Eurozone, % of GDP

Source: BMI, IMF

2 Withdrawal of Portfolio Assets in Asia by European Banks - Moderate Risk: In terms of

eurozone investments in Asian asset markets, the exposure is even lower, reflecting Asia’s net creditor status The average eurozone portfolio investment in Asia stood at 5.1% of GDP in 2009, with exposure to the PIIGS at just 1.1% That said, Australia stands out as being potentially at risk from a repatriation of external assets, with eurozone investments in Australia’s asset markets equivalent to 11.3% of GDP and PIIGS investments equivalent to 3.0% As a large net debtor, a sharp outflow of these funds could hurt the Australian banking system

Australia Most At Risk Of Portfolio Outflow

Portfolio Investment By PIIGS And Eurozone In Asia, % of GDP

Source: BMI, IMF

Since the IMF data were released in 2009, however, we have seen a substantial pick-up in foreign inflows into the region’s bond markets, which could be at risk in the event of a Lehman Brothers-style credit event in the eurozone This is particularly true in the case of Indonesia, in which improving debt ratios and a strong economic growth outlook have seen overseas holdings of local currency government bonds surge to IDR691trn (US$81.3bn), or 34.0% of the market Malaysia has seen a similar sharp run-up in foreign participation in its local bond market, more than doubling to 22% since the crisis Given

Malaysia’s much higher government debt-to-GDP ratio (currently at 58% of GDP), foreign holdings of local government debt at 12.5% of GDP is the highest in the region While we do not know how much of these holdings belongs to European investors, we would assume it to be substantial and therefore note the threat of a sudden spike in risk aversion resulting in repatriation of capital currently sitting in Asian government bonds

Rapid Growth In Inward Bond Investment

Malaysia And Indonesia – Foreign Holdings Of Local Currency Bonds, % of total

(% of GDP in bubble)

Source: BMI, Asia Bonds Online

That said, we believe Asian sovereign bonds are in a secular bull market driven by improving debt dynamics, strengthening currencies and a stable growth outlook The potential for even minor Chinese reserve diversification offers an additional reason for optimism Australia, Malaysia, and Indonesia are most at risk from this channel

3 Contagion Leading To Concern Over The Region’s Fiscal Weak Links – Moderate Risk: We

could also see a contagion effect in the sense that investors in Asian sovereigns with shaky fiscal positions and high debt loads could begin to anticipate a sell-off in sovereign bonds as seen across Europe With a gross public debt pile of more than 200% of GDP, a deflationary backdrop and a poor demographic profile, Japan certainly stands out on this front In emerging Asia, we view Pakistan, Sri Lanka, India, Vietnam and, to a lesser extent, the Philippines and Malaysia as the countries most at risk from this form of contagion A combination of high government debt-to-GDP ratios and external funding requirements will put pressure on these governments to narrow their fiscal deficits

Japan Stands Out In Terms Of Debt Metrics

Asia – Public Debt, % of GDP

Source: BMI, central banks

That said, we remain confident that Asian governments will be able to manage their fiscal accounts Even

in the case of Sri Lanka, which has the highest debt-to-GDP ratio in the region excluding Japan at 81.9% and is perhaps most at risk, the country is in relatively good shape compared with the PIIGS owing to its attractive growth prospects Japan is most at risk from this channel

4 A Reduction In European Bank Lending Into Asia – High Risk: While direct financial exposure to

a sovereign crisis in Europe would not have a material impact on Asian economies, we caution that the indirect outcome of reduced lending activity could pose a more substantial threat According to the Bank

of International Settlements, European banks are the source of one-quarter of all bank lending to

emerging Asia and the threat of financial market contagion is highest through this channel With

European banks representing almost 30% of total lending and almost 50% of all foreign lending, Vietnam looks particularly exposed Singapore, the Philippines, India and Indonesia are closely behind in terms of borrowing from European banks as a share of total lending During the global financial crisis, European banks reduced their lending to Asia by roughly one-fifth, resulting in a sharp drop in trade financing and business lending within the region, exacerbating the economic downturn Vietnam, Singapore and the Philippines are most at risk from this channel

5 A Disruption In Global Trade Flows – High Risk: In our eyes, the biggest risk emanating from a

full-blown European financial crisis would be the related fall in import demand as the trade bloc headed into recession This is where Asia’s links with the region are strongest As the chart illustrates, Asia’s

underestimate actual trade links between Europe and Asia given the indirect trade routes via China and other processing hubs through which assembled products are shipped from Asia to the EU

Singapore, Hong Kong And Vietnam Most Exposed

Asia – Exports To Europe

Source: BMI, central banks

Pakistan, China, India, the Philippines and Vietnam all export over 15% of total exports to Europe, making these countries heavily exposed to a slowdown in European demand However, given the low share of exports in GDP, this overstates the risks facing Pakistan, India and the Philippines When

looking at exposure to exports to Europe as a share of GDP, Singapore, Hong Kong and Vietnam appear

to be the most exposed Malaysia, Thailand and Taiwan are also highly exposed to a slowdown in

European import demand We add that China is also at substantial risk despite exports to Europe making

up just 5.0% of GDP The reason for this is that we believe the structure of the economy is such that the profits generated by the relatively productive export industry are leveraged by the government into less productive industries by providing foreign exchange earnings Hong Kong, Singapore, Vietnam,

Malaysia, Thailand, Taiwan and China are most at risk from this channel

we look at the risks facing Asia through trade linkages in the event of a potential double-dip recession

We also look at the potential impact of a US dollar crisis on the region

US Double-Dip Is Asian Enemy No 1: We have written recently about our view that Asian economic

growth decoupling should not be taken for granted (see our online service, June 21 2011, ‘Global Cycle Set To Turn Against Region’) Specifically, despite a weaker US economy, import demand from the US is

still strong and is in fact at an all-time high in the case of China despite the devaluing US dollar This may

be offering a false sense of security for investors in Asian asset markets Should US consumer import demand weaken, we could begin to see the region’s growth boom falter A US double-dip recession poses the largest single threat to the Chinese economy and, by extension, the entire region

China More Leveraged On US Than Ever, Asia Still Leveraged on China: Despite managing to

narrow its trade surplus, China has been unable to wean itself off its surplus with the US Exports to the

US hit an all-time high in June, sending the trade surplus to within a whisker of its July 2010 record of US$19.4bn Although exports to the US (at 17%) account for a lower share of total exports today than they did a decade ago, China’s trade surplus to the US has risen as a share of GDP and now routinely exceeds the overall trade surplus Essentially, China is more reliant than ever on the US to absorb its spare capacity and we believe a US double-dip recession would trigger a Chinese hard landing

China’s Surplus Is Only With The US

China – Trade Surplus With US And Rest Of World, US$bn

Source: BMI, Customs General Administration

While we still expect a pick-up in the cyclical sectors of the US economy in the coming months, the risks

As we saw back at the height of the global financial crisis, US imports from China contracted by a

staggering 48% in just five months, triggering a near-collapse of China’s crucial export sector

China Dependent On US Cyclical Sectors

Major US Imports From China, US$bn

Source: BMI,US Department of Commerce

Asia Less Exposed to US, At Least Directly: The rest of the region has managed to reduce its direct

exposure to US import demand Although still a significant market, in most cases China and the EU now account for larger shares of Asia (ex-China)’s export demand, with the US’s share declining in relative terms in recent years Only Vietnam, the Philippines, Pakistan and China send more than 15% of their total exports to the US However, we believe these figures mask Asia (ex-China)’s still-excessive

dependence on final demand in the US owing in large part to the importance of China’s trade processing industry

Exposure To US High But Varied

Asia – Exports To US, %

Source: BMI, central banks

US Reliance Understated By Trade Processing Industry: Data on the actual size of China’s trade

processing industry are difficult to obtain However, we calculate that the industry may account for in excess of a quarter of China’s entire export industry An estimated 33% of Hong Kong’s total exports to mainland China in 2010 were for outward processing Furthermore, we calculate that Hong Kong re-exports originating from China accounted for 15% of China’s total exports in 2010

This has two implications Firstly, it suggests that China’s total exports to the US are actually larger than what the official figures indicate, and we believe this could be underestimated by more than US$25bn annually Secondly, the estimated size of the industry suggests that Asian countries with a high proportion

of exports to China are much more exposed to the US than what the headline figures indicate While Hong Kong is the best example of this, Taiwan and South Korea, which export a respective 28.0% and 25.7% of total exports to China, are much more exposed to the US than meets the eye

Excessive Dependence On China Poses Major Risks

Asia – Exports To China, %

Source: BMI, central banks

Dollar Crisis Risks To The Region: Although not our core scenario, there is potential for a US dollar

crisis resulting from a loss of international confidence amid ongoing fiscal concerns and weak growth, which could trigger another round of quantitative easing Given the heavy exposure that Asia has to the

US dollar, this would have major implications

As we have argued on several occasions, we believe Asia, and China in particular, will remain committed

to the US treasury market and US dollar in general given China’s heavy exposure to US import demand

In order for the US dollar to crash, Asian central banks would need to stop preventing their currencies from appreciating by buying US dollars and forcibly sell their reserve holdings There is nothing that suggests to us this will occur any time soon

Reserve Growth Shows No Sign Of Abating

Asia – Foreign Exchange Reserves, US$bn

Source: BMI, central banks

That said, if investors begin to anticipate QE3 in the US, a continued run on the dollar by the global markets could create serious problems for Asian central banks as hot money increasingly flows into the region The accompanying chart shows the extent of the build-up in reserve assets over the past year as central banks have tried to prevent currency gains The region now boasts in excess of US$6.2trn in official reserves Another round of easing by the US Federal Reserve could prompt a speculative attack against Asian currencies, with asset bubbles and higher consumer price inflation the key risks

Bubble Potential

Asia Dollar Index

Source: Bloomberg JPMorgan Asia Dollar Index, BMI

The risks of this scenario are minor, in our view With the US fiscal deficit likely to shrink in 2012, this will help to narrow the current account deficit, reducing fundamental pressure on Asian FX Perhaps more importantly, despite Asia having excessive savings as a whole, these are only concentrated in China, Japan, Hong Kong, Taiwan and Singapore Notwithstanding the strong current account surpluses at present, South Korea, Malaysia, Thailand, Indonesia and the Philippines still record negative net

international investment positions As a result, gains in these net debtor countries are highly susceptible to

a reversal Furthermore, the two currencies that have benefited the most from the ongoing dollar sell-off have been the Australian and New Zealand dollars, whose gains are built entirely on speculative inflows, suggesting that the greenback sell-off is highly susceptible to a reversal in sentiment

Table: Banks’ Bond Portfolios

Bond Portfolio, US$bn Bonds, % total assets Year-on-Year Growth, %

Table: Asia Commercial Banking Business Environment Ratings

Limits of Potential Returns Risks to Potential Returns Overall Market

Structure

Country Structure Market Risks Country Risks Rating Ranking

Table: Comparison Of Loan/Deposit, Loan/Asset And Loan/GDP Ratios

Loan/Deposit Ratio, % Rank Trend

Loan/Asset Ratio, % Rank Trend

Loan/GDP Ratio, % Rank Trend

Source: Central banks, regulators, BMI

Table: Anticipated Developments In 2011

Loan/Deposit Ratio, % Trend

Loan Growth, US$bn

Deposit Growth,

US$bn

Residual, US$bn