[Financial Microscope] Dual Tailwinds of Interest Rates and Exchange Rates... Are Financial Holding Companies Poised for Record Q3 Earnings?

Exchange Rate Drops by Over 200 Won, Boosting Foreign Currency Translation Gains
Significant Room for Higher CET1 Ratios
Interest Rate Hikes Expected to Drive Up Net Interest Income

Domestic financial holding companies are experiencing dual benefits from rising interest rates and a falling exchange rate. The base interest rate has entered a full-fledged upward cycle, while the KRW/USD exchange rate has dropped by more than 200 won over the past two months and is now approaching the low 1,300 won range. This can translate directly into expanded revenue, such as higher interest income and foreign exchange translation gains. Following record-breaking first half results, projections are that these companies will post their highest-ever quarterly earnings in the third quarter as well.

Four Major Financial Holding Companies Expected to Post 5.8 Trillion Won in Third Quarter Net Profit, Surpassing Last Year’s All-Time High

According to financial information provider FnGuide on September 9, the combined third quarter net profit forecast for the four major financial groups (KB Financial Group, Shinhan Financial Group, Hana Financial Group, and Woori Financial Group) stood at 5.7951 trillion won as of the previous day. Specifically, the breakdown is as follows: KB Financial Group 1.8754 trillion won, Shinhan Financial Group 1.6557 trillion won, Hana Financial Group 1.2577 trillion won, and Woori Financial Group 1.0063 trillion won.

This projection exceeds last year’s third quarter net profit—the highest-ever quarterly result at 5.4863 trillion won—by 308.8 billion won, or 5.6%. Having already set a new record in the first half of this year with a net profit of 11.3392 trillion won, these companies are expected to continue their momentum and achieve further earnings improvement in the third quarter.

In fact, the external business environment for these four major financial groups has been turning favorable during the third quarter. To begin with, the base interest rate entered a clear upward cycle starting in July. After being frozen for a year and two months since May last year, the rate was raised to 2.75% in July and then hiked again in August to reach 3.0%. As a result, market interest rates have risen, causing banks’ loan rates—particularly for household loans—to climb to around 5% per annum.

Since the benchmark rate is expected to remain on an upward path at least through early next year, loan rates are likely to rise further. Higher lending rates can lead to an increase in interest income, a key source of earnings for financial holding companies.

Meanwhile, despite total volume controls on household lending, the household loan balance continues to grow. Moreover, in line with the policy direction of expanding productive finance, Korean won-denominated loans—driven mainly by corporate lending—are also on the rise. As of the end of August, the five major banks—including NongHyup Bank—had an outstanding household loan balance of 782.1192 trillion won, up 7.1584 trillion won compared to the end of June. During the same period, corporate loans increased by 10.8802 trillion won.

Jo A-hae, a researcher at Meritz Securities, commented, “The repricing of asset returns (the pace at which the average lending rate rises) may be relatively slow, since the interest rates on corporate loans—which have shown larger growth—are lower than those on household loans. However, with the base rate entering a genuine upward phase, structurally this is positive for the net interest margin (NIM). On top of that, the share of floating-rate loans is increasing overall, suggesting that there remains significant room for NIM to improve.”

High Exchange Rate Burden in First Half Eased... Foreign Currency Translation Gains Signal Green Light Due to Sharp Decline in Exchange Rate

The KRW/USD exchange rate has also dropped sharply into the 1,300 won range recently, alleviating the burden of the high exchange rates experienced in the first half of the year.

As of the end of June, the KRW/USD exchange rate (weekly closing basis) stood at 1,549.4 won, but it fell to 1,424 won in July and further to 1,368.6 won in August. So far this month, the rate has dropped even further, reaching the 1,340 won level as of September 7. In a two-month span, the rate has fallen by more than 200 won. This is due to sustained dollar selling by export companies benefiting from a current account surplus, as well as the strengthening of the yen, which has driven up the value of the Korean won.

Market observers expect that the sharp decline in the exchange rate will provide a substantial benefit to financial groups whose core subsidiaries are banks. Falling exchange rates can increase foreign currency translation gains for banks. At the end of each quarter, banks revalue overseas subsidiary investment, foreign currency-denominated assets, and liabilities into won. Although the degree of impact differs by bank depending on their foreign currency asset and liability structure, for banks whose foreign currency liabilities exceed their foreign currency assets, a rise in the won's value leads to increased accounting gains from foreign currency translation.

If the current exchange rate level persists through the end of September, it is estimated that Hana Financial Group will post foreign currency translation gains of around 200 billion won, while Woori Financial Group is expected to see approximately 130 billion won in such gains. To put this in context, Hana Financial Group booked total foreign currency translation losses of 109.8 billion won in the first half of this year—82.3 billion won in the first quarter and 27.5 billion won in the second quarter. If estimates hold, the third quarter will not only offset all such losses accrued in the first half, but also result in additional gains.

The falling exchange rate is also positive for improving the capital adequacy of financial groups. When the exchange rate declines, the won-converted scale of foreign currency risk-weighted assets (RWA) shrinks, resulting in a reduction in total RWA, which in turn can raise the Common Equity Tier 1 (CET1) ratio. The CET1 ratio measures a financial group’s capacity to absorb losses in times of crisis; as its denominator, RWA, falls, the ratio rises.

For every 10-won decline in the exchange rate, the CET1 ratio for the four major financial groups improves by 0.01 to 0.02 percentage points. Choi Jungwook, a researcher at Hana Securities, noted that “Although the sensitivity to exchange rate declines has eased somewhat thanks to the approval and expansion of structural FX positions, a falling exchange rate still has a positive effect on the CET1 ratio. If the current rate holds through the end of this month, it is expected to boost the third quarter CET1 ratio by approximately 0.2 to 0.4 percentage points.”

This content was produced with the assistance of AI translation services.