China banks: risky trusts overshadow larger lending peers

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Seen but not heard is an old-fashioned guide to children’s best behaviour. Today, Beijing bureaucrats ask that China’s young people not be seen either. On Tuesday the country’s statistics bureau announced it would suspend youth jobless data.

This indicates the dire state of the Chinese economy and financial sector. China’s shadow lenders — trust banks — are feeling that pressure. This means the larger state-controlled banks must shoulder more credit risk.

Rising youth unemployment numbers have set new records in recent months. Officials cited the need to improve the measurement methodology in the 16-to-24 age group. The move comes just after factory and retail sales data that missed expectations. Altogether, this poses a serious challenge for Chinese lenders.

China’s $2.9tn trust industry started out 40 years ago amid a booming economy. When larger local banks could not satisfy loan demand from fast-growing companies, trusts stepped in to help. Given generous licences to invest in many types of assets, they focused on property developers and high-risk companies.

The real estate crisis has taken a toll since then. The largest trust, Zhongrong International Trust, has missed at least two payments. It has investment products worth Rmb39.5bn due this year. As developers lose access to non-bank financing, the fallout among this group will spread.

Shares of the largest banks, including Bank of China and Agricultural Bank of China, are up a fifth this year as the worst of Beijing’s sector-wide crackdown appears to have passed. Yet they still trade at about a third of tangible book value, well below regional peers. Hang Seng Bank in contrast is rated at almost 1.2 times.

Investors worry that the largest local banks will need to replace credit lines, as they have done historically. Lenders had to bail out floundering property groups last year by offering more than $160bn in fresh loans. That emergency credit should now expand to other high-risk local companies. Meanwhile, profitability, as measured by net interest margins, has shrunk at the largest banks this year.

As economic data reveals weakness, the renminbi has dropped to five-year lows against the dollar. State banks may therefore have to support the currency as well. With so many clean-up jobs ahead, investors should remain wary of China’s largest banks.