Prepping for a bank bailout in China; China to let banks sell off loans in bid to tackle debt overhang

Prepping for a bank bailout in China

Izabella Kaminska

| Aug 09 16:01 | 5 comments | Share

A very intriguing little exclusive from Reuters on Friday:

(Reuters) – China is developing a new trading platform to enable banks to sell off loans to a wider range of investors, in a move that could pave the way for a government bailout of lenders or distressed asset sales to private investors. The trading platform, now in the testing phase, is designed to introduce banks to a new class of investors, including non-bank financial institutions and large companies. Currently, the lack of well-established precedents for asset disposals effectively leaves banks only two options: sell non-performing loans in private deals, mostly with big state-backed asset management firms, or keep rolling them over indefinitely to avoid booking a loss.Most analysts believe Beijing will eventually be forced to use some public funds to help peel off bad loans from state banks, but the ability to draw in at least some private capital could reduce the cost of that bailout. The new platform could aid the effort to draw in private investors by allowing for price discovery for loan transfers, creating benchmarks that could guide future deals. Greater transparency in pricing could thus lure even more investors.

According to Reuters, the China Banking Regulatory Commission (CBRC) will be coordinating the implementation of the credit transfer system, which will operate through the interbank system and allow for the transfer of asset-backed securities (ABS) as well as non-securitized loan packages.

They add that the new platform will be administered by China Central Depository & Clearing.

The idea is mainly for banks to be able to shed non-performing assets from their balance sheets and free them up to support the economy with fresh credit.

As China watcher Simon Hunt, of Simon Hunt Strategic Services, noted on Friday, if the initiative is successful it could pave the way for a significant boost to Chinese asset valuations as well as significantly revive Chinese commodity purchases:

The speed with which government has acted in the wake of July’s credit repercussions is not just exemplary but illustrates how deep and serious is the debt issue especially in the private sector which has been the major driver of growth and employment.

The real question, of course, is who will be the buyer for the distressed loans. One favourite will be the four AMCs established in 1999 to take-over some of the banks’ non-performing loans. Government would like the private sector to participate but for that to take place they would need significant discounts to face value.

We will keep you abreast of new information as and when it is forthcoming. However, all the initiatives that government has introduced point towards a stronger recovery to the economy that we thought possible just a few weeks ago. It fits what we have also been saying that starting sometime this autumn exponential rises will be seen in global equity and commodity markets that should last for only 6-9 months after which serious declines will be experienced.

Exclusive: China to let banks sell off loans in prelude to possible bailout

Fri, Aug 9 2013

By Heng Xie and Gabriel Wildau

BEIJING/SHANGHAI (Reuters) – China is developing a new trading platform to enable banks to sell off loans to a wider range of investors, in a move that could pave the way for a government bailout of lenders or distressed asset sales to private investors.

The trading platform, now in the testing phase, is designed to introduce banks to a new class of investors, including non-bank financial institutions and large companies.

Currently, the lack of well-established precedents for asset disposals effectively leaves banks only two options: sell non-performing loans in private deals, mostly with big state-backed asset management firms, or keep rolling them over indefinitely to avoid booking a loss.

Most analysts believe Beijing will eventually be forced to use some public funds to help peel off bad loans from state banks, but the ability to draw in at least some private capital could reduce the cost of that bailout.

The new platform could aid the effort to draw in private investors by allowing for price discovery for loan transfers, creating benchmarks that could guide future deals. Greater transparency in pricing could thus lure even more investors.

The China Banking Regulatory Commission (CBRC) will introduce a so-called “credit transfer system” in the country’s interbank market, which includes banks as well as non-bank financial institutions and large companies, three sources with knowledge of the situation told Reuters.

The system would allow for the transfer of asset-backed securities (ABS) as well as non-securitized loan packages.

China’s banks are struggling with an overhang of potentially bad debt from a state-backed lending binge unleashed from 2008 to 2010 in response to the global financial crisis.

Market participants widely suspect that the true scale of the bad loan problem is far larger than the official, system-wide non-performing loan ratio of under 1 percent. Loans to local governments have emerged as a particular source of risk.

Allowing banks to unload assets could help prevent a debt crisis that could lead to a sharp recession if asset prices tumble and credit flows to the real economy decline.

It could also free up space on bank balance sheets, enabling them to support the economy with fresh credit. China is on pace for its slowest full-year growth since 1990.

REVITALISATION SEEN AS KEY

In response to questions, the CBRC appeared to confirm the program, saying that in line with the leadership’s call for “revitalizing the monetary credit stock,” the agency was “in the midst of researching related institutional structures and methods.”

The State Council, China’s cabinet, first introduced the “revitalize the stock” formulation in a policy statement in June.

The establishment of a system allowing troubled assets to circulate and trade – rather than sit like deadweight on banks’ balance sheets – sheds new light on what the cryptic but oft-repeated phrase means.

The new platform will be administered by the China Central Depository & Clearing Co., Ltd., the state-backed clearing house that clears trades in the interbank bond market, Reuters sources said.

“China Central Depository’s system is working on supporting both ABS as well as (non-securitized) loan transfers,” said a source with knowledge of the system.

Several simulated trades occurred on the system last week, and it will be formally launched following further internal discussion and a public comment period, said another source, who is close to regulators.

But questions remain about who would be willing to buy risky bank assets and at what price.

China set up four state-backed asset management companies (AMCs) in 1999 to buy 1.4 trillion yuan ($230 billion) in bad from the nation’s Big Four banks. They bought the bad loans at or near face value in an explicit bailout of commercial banks.

This time around, the AMCs may again step in to purchase the lowest-quality assets.

In addition to the original four, the CBRC last year authorized provincial governments to set up their own AMCs to buy bad debt from smaller banks. So far only Jiangsu, a wealthy province in southeast China, has formally established one.

But private investors, including brokerages, commercially-oriented AMCs, distressed debt investors, insurance companies, and pension funds, would likely require discounts to face value for all but the highest quality loans.

Even with such discounts, however, the difficulty of performing due diligence on loans originated by other institutions could limit these investors’ appetite for these assets, market participants say.

“The non-standardization of assets has always been the main factor restricting credit asset transfers. How can you assess the risk? Bonds can have credit ratings, but loans don’t. This has created difficulties for price setting,” said a senior interbank market participant at a mid-sized Chinese bank.

Securitized assets, which are standardized, carry credit ratings, and are typically more liquid than bank loans, could be more enticing.

Reuters reported last month that the CBRC was working with China’s securities regulator to formulate new, less restrictive guidelines for the creation of ABS.

China cautiously re-launched a securitization pilot program last year, following a halt during the financial crisis.

But only 25.6 billion yuan in credit-based ABS are currently outstanding in China’s interbank market, a tiny fraction of the 27.25 trillion yuan in total bonds outstanding, according to data from China’s two main bond clearinghouses.

Updated: Friday August 9, 2013 MYT 6:18:42 PM

China to let banks sell off loans in bid to tackle debt overhang

BEIJING/SHANGHAI, Aug 9 (Reuters) – China will unveil a new trading platform which will allow banks to sell off loans to other investors, laying the groundwork for a potential bailout and recapitalisation of a banking system rife with bad assets.

The China Banking Regulatory Commission (CBRC) will introduce a so-called “credit transfer platform” in the country’s interbank market, which includes banks as well as non-bank financial institutions and large companies, three sources with knowledge of the situation told Reuters.

China’s banks are struggling with an overhang of potentially bad debt from a state-backed lending binge unleashed in 2008 to 2010 in response to the global financial crisis.

Market participants widely suspect that the true scale of the bad loan problem is far larger than the official, system-wide non-performing loan ratio of under 1 percent.

Allowing banks to unload assets could help prevent a debt crisis that could lead to a sharp recession if asset prices tumble and credit flows to the real economy decline.

It could also free up space on bank balance sheets, enabling them to support the economy with fresh credit. China is on pace for its slowest full-year growth since 1990.

In June, China’s cabinet announced its intention to “revitalise the stock” of outstanding assets. The establishment of a market for banks to sell unwanted loans could shed light on what this cryptic but oft-repeated phrase means.

The CBRC declined to comment.

The new platform will be administered by the China Central Depository & Clearing Co., Ltd., the state-backed clearing house that clears trades in the interbank bond market.

“China Central Depository’s system is working on supporting both ABS (asset-backed securities) as well as (non-securitised) loan transfers,” said a source with knowledge of the system.

Several simulated trades occurred on the system last week, and the formal launch will happen following further internal discussions and a public comment period, said another source who is close to regulators.

But questions remain about who would be willing to buy risky bank assets and at what price.

China set up four state-backed asset management companies (AMCs) in 1999 to buy 1.4 trillion yuan ($230 billion) in bad from the nation’s Big Four banks. They bought the bad loans at or near face value in an explicit bailout of commercial banks.

This time around, the AMCs may again step in to purchase the lowest-quality assets. But China’s top leaders have also stated their desire to attract private capital into China’s financial sector.

Private investors, including commercially-oriented AMCs, distressed debt investors, insurance companies, pension funds, would likely require discounts to face value for all but the highest quality loans.

Even with such discounts, the difficulty of performing due diligence on loans originated by other institutions could limit these investors’ appetite for these assets, analysts say.

About bambooinnovator
Kee Koon Boon (“KB”) is the co-founder and director of HERO Investment Management which provides specialized fund management and investment advisory services to the ARCHEA Asia HERO Innovators Fund (www.heroinnovator.com), the only Asian SMID-cap tech-focused fund in the industry. KB is an internationally featured investor rooted in the principles of value investing for over a decade as a fund manager and analyst in the Asian capital markets who started his career at a boutique hedge fund in Singapore where he was with the firm since 2002 and was also part of the core investment committee in significantly outperforming the index in the 10-year-plus-old flagship Asian fund. He was also the portfolio manager for Asia-Pacific equities at Korea’s largest mutual fund company. Prior to setting up the H.E.R.O. Innovators Fund, KB was the Chief Investment Officer & CEO of a Singapore Registered Fund Management Company (RFMC) where he is responsible for listed Asian equity investments. KB had taught accounting at the Singapore Management University (SMU) as a faculty member and also pioneered the 15-week course on Accounting Fraud in Asia as an official module at SMU. KB remains grateful and honored to be invited by Singapore’s financial regulator Monetary Authority of Singapore (MAS) to present to their top management team about implementing a world’s first fact-based forward-looking fraud detection framework to bring about benefits for the capital markets in Singapore and for the public and investment community. KB also served the community in sharing his insights in writing articles about value investing and corporate governance in the media that include Business Times, Straits Times, Jakarta Post, Manual of Ideas, Investopedia, TedXWallStreet. He had also presented in top investment, banking and finance conferences in America, Italy, Sydney, Cape Town, HK, China. He has trained CEOs, entrepreneurs, CFOs, management executives in business strategy & business model innovation in Singapore, HK and China.

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