A branch of the Agricultural Bank of China in Xinjiang Photo: Wikimedia Commons, Panoramio

The global economy has been hit by the Covid-19 pandemic this year, resulting in a large amount of bad debts in the investment markets. Although China has basically controlled its epidemic with its highly effective anti-epidemic measures and is now in the stage of rapid recovery, the country still has to clear its accumulated bad debts. China has entered a counter-cyclical period for the transactions of non-performing assets.

In addition, China’s economy is undergoing an economic reform which will encourage the clearance of non-performing assets. The sufficient supply of these assets has attracted a lot of attention from foreign capital.

Over the past decade, the outstanding non-performing loans of Chinese commercial banks have surged rapidly. At the end of 2019, such loans reached 2.41 trillion yuan (US$337.5 billion).

According to the China Banking and Insurance Regulatory Commission, the outstanding non-performing loans of Chinese financial institutions amounted to 3.3 trillion yuan at the end of February 2020 while the average non-performing loan ratio was 2.08%, up 0.05 percentage points from January and the highest in the past decade.

When the economy is growing, it is good timing to dispose of non-performing assets with a high return. When the economy is under a downward pressure, non-performing assets become attractive for acquisitions due to their rising supply and bigger price discounts.

Good opportunity

The global banking industry is facing a huge challenge as many countries suffer economic downturns due to the pandemic. On April 3, the First State Bank in West Virginia officially declared bankruptcy and became the first victim in the banking sector amid the outbreak.

One feature of the finance industry is that risks usually come after a disaster in the sector. According to Moody’s, the default rate of global bonds will reach 6.5% if the global economy can recover rapidly after a relatively short period of lockdown. If there is a more serious recession (e.g. economic shocks continue in the second half), the default rate may exceed 18%, which is the level of the financial crisis in 2008.

According to the CBIRC, Chinese commercial banks disposed of about 450 billion yuan of non-performing loans in the first quarter of this year, up 81 billion yuan from the same period of last year.

The scale of the non-performing asset market in China has expanded as the non-performing loan ratio was pushed by the rising default rate. Investors enjoy an opportunity to purchase non-performing assets, which have sufficient supply.

Foreign capital

Overseas investment institutions have been searching for safe havens amid the rising risks in the global markets due to the pandemic.

As China has controlled the epidemic over a relatively short period of time and resumed its production and operations, its financial markets have stabilized. A large amount of “bad debts” accumulated in the Chinese markets have so far attracted much foreign capital fighting over a piece of the cake.

Apart from this, the relaxation of local policies has also encouraged foreign capital to enter China’s market. In January this year, China and the United States signed a trade agreement that allows foreign capital to directly apply for asset management corporations (AMC) licenses.

In July 2019, the CBIRC launched seven new policies to facilitate overseas institutions to enter China’s capital markets. For example, the scheduled cancellation of the foreign investors’ shareholding limits in brokerages, fund houses and futures companies in 2021 will be advanced to 2020. Foreign-funded institutions are allowed to obtain type-A lead underwriting licenses in the interbank bond market.

The trend that foreign capital enters China’s non-performing asset markets has existed for some years. The relaxation of rules for foreign investors and the opening-up of the Chinese financial sector have also contributed to this development.

Foreign investors have shown strong interest in China’s non-performing market as China’s non-performing asset market is the second largest after Japan’s in Asia. The loosening China’s financial policy is also a positive factor.

Diversification

In the past, China’s primary non-performing asset market was dominated by four major AMCs. Having more and more players in the market is now a new trend due to the appearance of a lot more non-performing assets across the country.

In recent years, a new cycle in the non-performing asset market has commenced. The original four AMC monopoly situation has gradually changed to the “4+2+banks+N” situation, which can help handle different kinds of non-performing assets more effectively, form a market-driven environment and increase competition orderly in the market.

The demand of local banks to dispose of their non-performing assets is growing. In order to accelerate the process, the Chinese government launched many supporting measures to promote non-performing assets to more market players, especially those with strong investment ability and high quality management. These are the so-called “N” players in the market.

On June 11, NWS Holdings, a unit of New World Development, said it has filed to apply for a license from the CBIRC to set up its asset management businesses in Southern China’s Hainan province. If approved, the company’s AMC unit in Hainan will become the first one fully owned by a Hong Kong company in China.

Due to the opening-up of China’s non-performing asset markets and rising interests of foreign capital, the competition for non-performing assets will definitely intensify. Local investment institutions can also share China’s non-performing asset markets if they can make good use of foreign peers’ technologies and management systems.

The story was written by Nadeem Xu and Ruan Qian and first published at ATimesCN.com. It was translated by Nadeem Xu.

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