Bad debt in the mainland's banking system could be at least double the size given in official figures, according to an analysis of plans by China Merchants Bank to raise HK$44 billion.
Mainland banks plan to raise nearly 300 billion yuan (HK$380 billion) in new capital this year, a sum roughly equivalent to all the officially recognised bad loans in the system as of the end of June.
The non-performing loan (NPL) ratio could be much worse if off balance sheet exposure - such as from wealth management products and corporate bonds - is taken into account, according to Citi analysts.
They found China Citic Bank and China Minsheng Banking Corp had the most exposure to off balance sheet loans, accounting for 30 per cent to 40 per cent of their reported assets.
China Merchants Bank said on Thursday it had obtained China Securities Regulatory Commission approval to sell about 680 million shares in Hong Kong to existing shareholders, to raise as much as 35 billion yuan.
Mainland banks are seeking to raise funds as regulators tighten capital adequacy rules and policymakers crack down on use of short-term funding.
"Most of the overdue loans are de facto non-performing debt. It's just a matter of the calculation method," said Orient Securities analyst Jin Lin. "The situation is serious and it is prompting banks to make provisions."
He estimated that mainland banks were saddled with 900 billion yuan of non-performing loans. The China Banking Regulatory Commission said in March the banks had 540 billion yuan of non-performing loans.
"We did see sharp growth in overdue loans in recent months," said a senior manager with the Bank of Shanghai. "It's a very bad sign and it's obvious that all banks are facing the problem."
The banker added that he had never before seen such a large increase in overdue loans.
Loans made to steel traders and solar-panel makers were likely to turn sour now that a large number of such businesses were near collapse, bankers said.
"The risk of a bad-debt crisis is in the making," said Jonathan Cornish of Fitch Ratings. "China's GDP growth is lower and asset quality is deteriorating, which means higher risks on NPLs."
UBS said in a recent report that wealth management products and other balance-sheet risks could increase the NPL ratio to as high as 4.3 per cent by 2015 from an estimated 1.5 per cent at the end of this year.
That translates into a capital shortfall of 300 billion yuan for H-share mainland banks, it said.
The banking regulator said that as of the end of March, mainland banks' NPLs had jumped 20 per cent from a year earlier. Big banks' NPLs rose 8.2 per cent and joint-stock banks' 47.4 per cent.
"China's official NPL figures underestimate the severity of bad loans," a Beijing-based analyst said. "Once defaults take place - and that is likely given the poor solvency of many local government financial vehicles - huge impairment losses will take place," he said. "Banks will tap capital markets to replenish capital again. I expect more massive fundraisings over the next two to three years."
Additional reporting by Jane Cai in Beijing and Kanis Li