Banking & Finance

Mainland China’s banking regulator moves to contain off-balance-sheet risk

Authorities tighten scrutiny of lenders’ use of complex financial structures

PUBLISHED : Tuesday, 03 May, 2016, 8:35pm
UPDATED : Tuesday, 03 May, 2016, 8:34pm

Mainland China’s banking regulator has moved to rein in the rapidly growing “shadow loans” industry, telling commercial lenders to properly account for lending products that may appear on their balance sheets as lower-risk investments.

The authorities are tightening scrutiny of the lenders as the growing use of complex financial structures has raised concerns that bad lending and credit risks can be concealed.

The new rules forbid commercial banks from entering into repurchase agreements once a loan’s income rights have been transferred, according to a document from the China Banking Regulatory Commission (CBRC).

Banks also are now required to make adequate provisions for transferred loans where the underlying loan assets remain on their balance sheets.

Some joint-stock commercial banks that have a higher reliance on interbank funds and increasing investments in loans and receivables could see their liquidity deteriorate
Minyan Liu, Moody’s

Individual investors also are forbidden from investing in bad loans through bank-issued wealth management products.

Financial institutions have used the transfer of income rights from credit assets to improve their business, the CBRC said, but added that part of the process was “non-standard and opaque”.

Analysts say the new rules, issued last week, are meant to provide greater transparency and address the rampant growth of investment receivables that are now accumulating on bank balance sheets, particularly among mid-tier lenders.

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“Some joint-stock commercial banks that have a higher reliance on interbank funds and increasing investments in loans and receivables could see their liquidity deteriorate,” said Minyan Liu, an associate managing director at Moody’s Investors Service.

The size of the mainland’s “shadow loan” book rose by a third to US$1.8 trillion in the first half of last year, equivalent to 16.5 per cent of all commercial loans on the mainland, according to UBS.

The growing use of financial structuring, which involves structures known as directional asset management plans (DAMPs) or trust beneficiary rights (TBRs), comes as some mid-tier lenders, under pressure from the mainland’s slowest economic growth in 25 years, are already delaying the recognition of bad loans.

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Banks are required to set aside capital against their credit assets. The riskier the asset, the more capital must be set aside, earning them nothing. Loans typically carry a 100 per cent risk weighting, but some investment products carry a quarter of that, so banks can keep less money in reserve and lend more.

Banks must also make provision of at least 2.5 per cent for their loan books as a prudent estimate of potential defaults. Provisions for these products ranged between just 0.02 and 0.35 per cent of the capital value at the main mainland banks at the end of June, Moody’s said in December.