CHINA'S NPL INCREASES TO FIVE-YEAR HIGH
Since FY 11 to FY15 Q1, NPLs in China are on an upward trend with NPL of four largest banks reaching a 5 year high.. Refer graph below for NPL trends. Source: (http://www.financeasia.com)
This post will discuss factors in addition to the increase in China's NPL. The factors are constant rollovers and credit risk carried outside of the banks potentially causing a dominos effect as assets become impaired during an economic slowdowns. Lastly we will look at how prepared the banks are by comparing their portfolio of off-balance sheet assets against their total asset.
CHINA'S CREDIT ROLLOVERS
Regulators influence banks with rolling over impaired
loans with minimal reporting and transparency in selection of businesses to rescue. Comments from Fitch:-
" It is not uncommon for the
authorities (central or provincial government, PBOC, or China Banking
Regulatory Commission; CBRC) to encourage banks to roll over loans to support
the broader economy. Such influence from the
regulators is common in China, but less so in more developed markets as it
runs counter to the principle of strict prudential oversight. (In addition, in
some cases in China the regulator has lowered risk weights to encourage banks
to lend to potentially riskier borrowers.)"
"Where
a bank agrees to provide additional funding to prevent default, i.e. by rolling
over the loans and requiring more collateral as credit enhancement, this
exposure and/or other loan exposures relating to the same borrower may not be
recognised as impaired. The level of disclosure of widely reported
corporate defaults (or near defaults) is low, and there is no information
available on the amount of debt renegotiations that are unreported by the
media."
INFORMAL CREDIT RISKS NOT ACCOUNTED FOR
A portion of china's credit risks is carried outside of the banks with examples such as bad assets transferred to Asset Management Companies (AMC), loans secured from non-banks are treated as"investments classified as receivables. Excerpt from Fitch below:-
"China's four major AMCs were set up in 1999 to absorb CNY1.4trn in bad assets at par value from China Development Bank and the big four banks (Industrial and Commercial Bank of China, China Construction Bank, Bank of China and Agricultural Bank of China) before their restructuring.NPL disposals to AMCs have increased in recent years as more banks have come under pressure to manage their reported NPL levels…
Banks work with non-bank financial institutions (ie trust companies, securities firms, other financial subsidiaries and/or affiliates to the banks) to channel credit to sectors that have restricted access to traditional banks loans. This is usually called “channel” business in China. The banks may put together these transactions themselves, in which case the borrower could be an existing bank customer, or the non-bank financial institution may help the bank identify profitable lending opportunities.Some of this credit is sold to investors as Wealth Management Products, but banks are increasingly holding it on their own books as “financial assets held under repurchase agreements” or “investments classified as receivables”...
Fitch estimates around 38% of credit is outside bank loans.
IMPACT
With approximately 38% of credit risk done off the books and roll-overs due to interventions, the "real" ratio of non-performing loans to total loans is higher then actual figures and loss reserves might not be sufficient to cover severe events for some banks.Refer Fitch's chart below for Off-Balance Sheet credit risk exposures against total assets.
We will look at the impact and trends of shadow banking in China and how it affects China's credit risks in subsequent posts.
