Fears Of China’s Shadow Banking Implosion Are Overblown

When China Commercial Credit, Inc. planned its IPO on NASDAQ last August, it had to cut the deal size twice because of weak investor appetite. The company ended up raising US$8.9 million, only half of its original target.

Now six months later, the first Chinese microcredit company to list in the U.S. is planning a secondary offering. This time, it aims to raise about double the amount it did last time, and it most likely won’t need to halve its deal size.

Despite investor concerns about the risks within China’s shadow banking sector, which China Commercial Credit is a part of, most industry insiders caution against exaggerating the downside.

The consensus right now is that China won’t repeat the disasters of 2008.

"(Highly risky loans) among microcredit companies (in China) are not widespread," Qin Huichun, CEO of China Commercial Credit, tells China Money Network in a phone interview from the company’s office in Wujiang district in Suzhou.

All of China Commercial Credit’s loans are secured with real assets as collateral. As a comparison, about 80% to 90% of loans under US$1 million in the U.S. is secured with collateral in 2013, according to the U.S. Federal Reserve.

Moreover, China Commercial Credit’s average loan size is very small, close to RMB2 million ($333,000), while its annual interest rate was around 14.6%, says Qin.

Granted, with around 8,000 microcredit companies in China with RMB800 billion outstanding loans, the size of the microcredit industry is negligible in China’s shadow banking system.

The total assets in the Chinese shadow banking sector is around RMB46 trillion, according to JPMorgan Chase estimates. Gao Hua Securities puts it at RMB28.5 trillion.

More importantly, the ratio of shadow banking to total bank assets in China stands at 30%, comfortably low compared to 170% in the U.S. and 150% in the Netherlands, JPMorgan’s analysis shows.

Last month, China’s State Council released a document for the first time, outlining measures on how to contain risks related to shadow banking. It concluded that risks are "overall manageable," without giving details.

But the document did define what the Chinese government considers as shadow banking. It categorizes the space into three types. The first includes third-party wealth management products and trust companies, or financial institutions without licenses and no regulatory oversight.

The second category is credit guarantee companies, microcredit firms, or those without licenses and partially regulated. The last type includes entities with licenses but have inadequate regulation, such as money market funds, securitized products, and off-balance-sheet products.

The biggest immediate risk may erupt from wealth management products used as financing platforms for risky corporates. Lately, the near or technical default of a number of trust products has heightened such danger.

The potential of market dislocations is especially high this year. Around RMB3.5 trillion trust products out of the total of RMB10.1 trillion will mature this year, according to Nomura estimates.

Nomura identified 28 near or technical defaults since 2012, all of which involve trust products invested in real estate, mining and infrastructure areas.

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Nina Xiang is the co-founder and managing editor overseeing editorial content and product development at CMN. Before founding CMN in 2011, Nina worked at BusinessWeek magazine in Beijing and Institutional Investor magazine in New York, writing about business and financial services. While in New York, she also served as part-time correspondent for Shanghai's financial television channel, China Business Network, as well as China Radio International, China's national English-language radio network.