China Construction Bank -A:Strong capital position remains key strength;maintain Buy

Strong capital implies better EPS and DPS support.

    CCB has the highest capital level among China banks under our coverage, with a CET1ratio of 13.46% as at end-Q116. We think this is important because it implies CCB willbe later in the queue for capital-raising and hence ROE dilution. For investors, capitalraisingalso means dilution of EPS and hence DPS, which may have implications fordividend yields—an important indicator for Chinese banks investors in the currentmarket. Additionally, sector earnings are subdued and hence banks’ capability togenerate internal capital is deteriorating. We expect further ROE decline to lead topressure on P/BV valuations and thus banks' ability to raise capital in the secondarymarket. Based on these, we continue to prefer banks with better capital positions andreiterate our Buy rating on CCB.

    Non-interest income to support earnings growth.

    CCB's net fee income picked up quite strongly by 13% YoY or 54% QoQ in Q116,despite the relatively weak capital markets during this period. Key drivers werebancassurance, wealth management products, custodial business, credit card andelectronic banking. Investment gains rose by 273% YoY (from sales of available-for-salefinancial assets) and other operating income increased by 95% YoY (mainly driven byCCB's insurance business). We believe CCB’s strong non-interest income could helppartially offset the negative impacts of narrowing NIM and rising provisions.

    Forecasts now extended to 2020E.

    We forecast CCB's NPAT to drop 4% YoY in 2016 and stabilise in 2017, given theimpact of continuous asset quality deterioration (rising credit costs) and interest rateliberalisation (narrowing NIM). We believe earnings momentum is unlikely to pick upuntil 2018.

    Valuation: Maintain Buy and cut price target to Rmb6.10 (from Rmb7.70).

    We apply 0.98x P/BV to our 2016 BVPS estimate of Rmb6.26 to derive our price target.

    Our target P/BV is based on a long-term sustainable ROE of 10.4%, a cost of equity of10.5% and a long-term growth rate of 5%. CCB is trading at 0.8x 2016E P/BV, with a5.5% dividend yield. Our new price target implies 27% absolute upside.