China Considers "Teaching Investors A Lesson" In Moral Hazard With Trust Default

Tyler Durden's picture

China faces a very significant test of its reform policy pursuit rhetoric. With China's Bank regulator set to issue an alert on coal-industry loans - "as a result of outout cuts, they don't have much cash flow and thus they can't repay loans and debt," the massive growth in wealth products such as the CEG#1 (which offered a 10% yield for a 3 year term) based on these loans leaves the Chinese with a moral hazard dilemma - bailout or no bailout. ICBC has made it clear it wil not bailout investors since reputational damage would be "well manageable," and former-PBOC adviser Li Daokui adds that "a controlled default is much better than no default," noting critically that trust defaults "will teach future investors a very important lesson." Belief that contagion can be "contained" brings back memories of 2008 in the US but a total (or even partial) bailout will merely increase the leverage and risk-taking problem and signal government talk of policy reform is not real.

Chinese regulators are preparing to issue alerts on Coal-industry loans (which obviously applies to all over-capacity industry loans that back the trillions in shadow banking system loans and wealth management prodsucts)...

China’s banking regulator ordered its regional offices to increase scrutiny of credit risks in the coal-mining industry, said two people with knowledge of the matter, signaling government concern about possible defaults.


The China Banking Regulatory Commission also told its local branches to closely monitor risks from trust and wealth-management products, said the people, who asked not to be identified as the matter isn’t public. The commission issues such alerts for matters that it judges may pose significant risks to banks, the people said.




Coal prices fell 16 percent last year, according to data tracked by Bloomberg. Prices fell below the break-even point for most small and medium-sized producers, forcing them to reduce output, Helen Lau, an analyst at UOB Kay Hian Ltd. in Hong Kong who covers the coal industry, said by phone.


As a result of output cuts, they don’t have much cash flow and thus they can’t repay loans and debt,” Lau said. “The fact that the government is giving warnings and not bailing out defaults will be good for industry consolidation, indicating it is letting the market shoulder the burden of its own risks.”


Larger companies have also suffered. ... The market is “quite worried” about the coal industry, Rainy Yuan, an analyst at Masterlink Securities Corp. in Shanghai, said by phone today. “Coal is a pillar industry in the economy and banks’ exposure to the sector should be quite substantial.” China is the world’s largest producer and consumer of coal.

ICBC said it will not bailout the Trust product investors:

ICBC Chairman Jiang Jianqing told CNBC the lender won’t compensate investors for losses tied to a 3 billion-yuan ($496 million) product distributed by the bank, and the that the incident will be a lesson for investors on risks.

But Trust products like this have exploded in recent years:

Products like the ICBC-distributed Credit Equals Gold No.1, which has a tenure of three years and boasted a 10 percent annual return for investors, have mushroomed in China as part of a surge in shadow finance outside the traditional banking system. Payment on Credit Equals Gold No. 1 is due Jan. 31. Assets managed by China’s 67 trusts soared 60 percent to $1.67 trillion in the 12 months ended September, according to the China Trustee Association, even as policy makers sought to curb money flows outside the formal banking system.

As Bloomberg notes,

China needs to let investors in a troubled trust-investment product suffer losses to demonstrate the true risks and let interest rates reflect market forces, a former central bank adviser said.

A controlled default is much better than no default,” economist Li Daokui said in an interview yesterday at the World Economic Forum in Davos, Switzerland, when asked if a product distributed by Industrial & Commercial Bank of China Ltd. should default. Putting a structure in place to let some of the investors take losses, “is also much better than uncontrolled default,” he said.


The first default of a trust product in at least a decade would shake investors’ faith in their implicit guarantees and spur outflows that may trigger a credit crunch, according to Bank of America Corp.

As CLSA warns:

Risk facing authorities is that a default in which holders aren’t bailed out in full might precipitate panic outflows across the trust and related wealth-management product asset class, triggering a liquidity crisis, which would also ricochet into Hong Kong


If there is a total bailout -- or perhaps even worse bailout through the backdoor as some speculate -- it will be a signal that the government’s talk of pursuing reform isn’t perhaps for real


This will increase macro risks, with China’s trust assets now totalling more than 10t yuan; cites another estimated 11t yuan of wealth-management products issued by banks, citing China Reality Research

Mesanwhile Nomura is a little more concerned at the macro picture:

Maintains view of one-in-three likelihood of a hard economic landing commencing before end-2015

The bottom line seems to be that - as former PBOC adviser Li adds:

Controlled losses will let “future investors know that the  trust products are not risk free,”


Trust defaults “will teach the future investors a very important lesson,”


Even a small loss would be “still better than no loss,”

It would appear - as we noted last night - that investors are starting to brace for just this to occur - but a belief in containment once again remains a pipe-dream should a default occur.

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IridiumRebel's picture
America Considers "Teaching Investors Lesson" In Moral Hazard With Trust Default being mitigated by the lowly peasants of the USSA and rewarding the TBTF with bailouts and bonuses. 


oh wait....'Merica actually did that......fuck me.

jcaz's picture

Yawn- talk is cheap, China..... 

Chief KnocAHoma's picture

Wow! The Chicoms are better at capitalism than Bernake. Who da thunk it?

Boris Alatovkrap's picture

Chinese Proverb...

Yu bai pei pa, yu no lu ki, mo ni go bai bai.

Handful of Dust's picture

The Shanghai index has not budged since the 2008 collapse. The Chinese don't trust the stocks anymore...they call it "the black pit" I read in China Daily. That's why they now only buy two things with their rmb.....that [underpriced] yellow metal and the [overpriced] houses.

chubbar's picture

What is the message if nothing happens with this default? Everything is under control? IMO, this hype leads to a big nothing burger. We will wake up one morning and something completely out of the blue will be the cause of a big financial disruption that takes the system down, probably planned.

Boris Alatovkrap's picture

More China Proverb of ancient origin...

Hi hu bai pei pa nao, pei lei ta

iLiquid's picture

Meanwhile the CHINEXT index for Chinese startup stocks has soared and investors are B’ing TFATH. They've lost faith in the major components of te Shanghai index -- big coal, big oil, big banking, big steel, big railroads, big every crap owned by government-industrial complex.

VD's picture

controlled losses = centrally planned losses = ergo CON(trolled) game on the up and the down = con game

eurogold's picture

WOW ! China seems to understand how capitalism works !

Sudden Debt's picture


and that's why everybody watches NBC...

Stoploss's picture


A moment of clarity, who knew..

Rising Sun's picture

Communists fucking up again.  Big surprise.


Pass me the Orville Redenbacher - should be fun to watch these fuckheads sink.

Bangin7GramRocks's picture

This word communist, I don't think it means what you think it means. There are an awful lot of millionaires and billionaires for such a commie country. They still have about 3 trillion to mop up the messes for a long while. Stop worrying about China.

yogibear's picture

War of financial systems. Currrency wars, then wars.

The US tries to destroy China's and China tries to destroy the US and becomes the victor.

Dr. Engali's picture

Isn't that special? Once again they are picking and choosing which investors to teach a lesson. A lot like Zero and General Motors. You have to love fascists.

satoshi101's picture

If I suck zero, do I have to swallow?

Just asking, I know its forbidden to ask. Mea Culpa.

wisehiney's picture

Controlled default. What comedians.

astoriajoe's picture

Lessons all around, it seems.

youngman's picture

I bet they blink...and the Chinese Government deposits the cash....they lose face if they fail..and they never want to fail..they are better than us remember..

pods's picture

They will resort to bailing them out, and QE.

Is there anything these fuckers wont rip off from us?  Hell, they even ripped off Top Gun.


pods's picture

The only lesson learned is one about cascading defaults.

The whole system is one big bubble to be pricked. When it starts, it wont stop.


disabledvet's picture

I think we're well into it actually. And I agree with the totality of comments above. "This should not come as a surprise." In fact this should be seen as the exact opposite...although it has been many years since I have lived in the East...and for the record it was not Mainland China.

Doing "business" over there is not something you necessarily want to "crow" about per se.

And yes...there are "geo-political aspects" as well.

"DeNile" ain't just a river in Egypt.

wisehiney's picture

It's all coming full circle at the same time.

thestarl's picture

With massive capital outflows in recent years mostly tied to the elite maybe?

LMAOLORI's picture



Take the money and run


Rich Chinese continue to flee China


Billions in Hidden Riches for Family of Chinese Leader


China's princelings storing riches in Caribbean offshore haven

RaceToTheBottom's picture


"When it starts, it wont stop."

  • When 50% of the country is on assistance, they probably don't care about balloons popping.
  • When 1%'ers own most of the country, the 99% probably don't care about balloons popping.

When EU pulled this line, the US FED crumbled and backstopped the EU.  Will the US backstop China?  Can it?


Tim_'s picture

Will Wang Pingyan be released with a slap on the wrist? What happened to China's tradition of executing ne'er-do-wells?

China Trust Products Gone Awry Evoke Soros ’08 Crisis Echoes

"The borrower, Shanxi Zhenfu Energy Group, collapsed in 2012 after leading shareholder Wang Pingyan was arrested for illegal deposit-taking."

CouldBeWorse's picture

I find it rather humorous that it takes Communist China to give the world an example of letting the free market run free.   What a pearl of wisdom telling investors to monitor the risk and understand what they are getting into.   This will be interesting to watch.

satoshi101's picture

In early 1980  went to china for some personal business, and I was struck, cuz prior I had never given it much thought, but I was struck by the fact that SHANGHAI was living wild west capiltalism, and at the same time the USA was descending into socialist hell.

Now jump ahead 30+ years, and go ahead talk shit, ... bu the truth is capitalist-china, and COMMUNIST-USA.


thestarl's picture

Hell yeah, maybe all the shorting calls on iron ore miners could pay off especially Fortesque Metals.

partimer1's picture

That was how Hank Paulson felt when Lehman was in trouble.  Its just beginning.  It has to start somewhere.

gwar5's picture

Probably a good idea.


Wish Goldman, Citi, and JPM would have been taught that lesson and been sent to jail. We would still be sorting things out but we would have crushed the usurpers and not thrown self government under the bus to save soul crushing central bankers.

satoshi101's picture

Imagine if your were citi , or squid-gs, or jpm, or chase, and everytime you wet your pants a nanny didn't come running to change your diapers? Imagine, ... well that time has come.

satoshi101's picture

George Soros has called the “eerie resemblances” between the 2008 global financial crisis and the nation’s debt market.


I like it, if in fact the CHINESE refuse the YELLEN money, on principal then as I have said all along here its a new day in CHINA, and for the world.

So what if a few morons who invested in SQUID garbage lose their principal, so what, for the greater good of humanity, ... its looking good.

When the likes of SOROS ( left wing LIKUD ) are wetting their shorts, you know that there is a richter 10 earthquake cumming down.

Blano's picture

As was pointed out already in another thread, "Credit Equals Gold" should have been the first hint to run like hell.

Super Broccoli's picture

what ???? so you can't just randomly invest in any smug's corporation promessing high yields anymore ? you'll have to waste your time with the fundamentals ??? this is so unfair !

satoshi101's picture

Yep, but these were the same young twats that had embraced the peoples revolution of tinnanemen square aka cia coup china, 1980's and they trusted the whores that brought USA type toxic products to chinese shores, ... and now guess what the rich nerds find out that toxic-assets sold by GS aka american k-mart suited ponzi assholes are as good as trash,... funny indeed, I think in this case unlike the american public that the GOONS selling toxic waste have played their last fucking game in asia, ...

It's game-over for LIKUD/ZIONIST toxic waste to be sold in china, time to return to the USA and sell the shit to morons.

Laughing Stock's picture

China's got it right...the US is run by douchebags and "The Tribe"

Let'em default gawd damn it

Maybe the US can learn something (doubtful)...after all, Chinese civilization is what?, like 5,000+ years old?  Maybe they learned a few things along the way.


youngman's picture

I bet someone in charge is getting alot of calls saying my son or daughter has some of those bonds....and you can't let them default.....that is how it works over there...

RaceToTheBottom's picture

I have no problem with not shielding investors from losses, as long as the CEOs have to commit suicide.

iLiquid's picture

Market is talking about BlackRock seeking a stake in Huarong, the Chinese asset-manager specializing in bad debts.

This could be either the next big disaster or the next big business. Where everyone else sees risk, go look for profits (or die trying),

jonjon831983's picture

Another lesson from China?  No more moral hazard?

shovelhead's picture

Sum Ting Wong.

Wei No Pay.

Ho Lee Fuk.


Wei Wil See.

zipit's picture

They will bail out. The status quo "always" does.