China Now Has So Much Bad Debt, It's Selling Soured Loans On Alibaba

As those who frequent these pages are no doubt aware, NPLs at Chinese banks are rising.

Here’s a kind of 30,000 -foot view from RBS’ Alberto Gallo:

As we documented last month after data on new RMB loans showed that the credit impulse in China simply rolled over and died in October, part of the problem is that banks are becoming increasingly concerned about sour loans, as an acute overcapacity problem, a decelerating economy, and sluggish global growth and trade have conspired to create an environment in which borrowers are now taking on more debt just to service the loans they took out in the past.

As Credit Suisse noted earlier this month, some firms are now borrowing just to pay salaries. Indeed, more than 50% of debt in the commodities space was EBIT-uncovered in 2014. The takeaway: China’s Minksy Moment is nigh.

Still, the official numbers on NPLs (shown above) look surprisingly low for an economy which is supposedly careening towards a debt crisis. There’s a simple explanation for this apparent discrepancy: the numbers, like China’s official GDP prints, are fabricated.

There are a number of strategies China uses to depress the official NPL figures including compelling banks to roll bad debt, but as Fitch outlined in detail back in May, Asset Management Companies play an important role.

“China’s four major AMCs were set up in 1999 to absorb CNY1.4trn in bad assets at par value from China Development Bank and the big four banks (Industrial and Commercial Bank of China, China Construction Bank, Bank of China and Agricultural Bank of China) before their restructuring. NPL disposals to AMCs have increased in recent years as more banks have come under pressure to manage their reported NPL levels,” Fitch wrote, adding that “AMCs’ strategic importance [should] increase with China’s economic rebalancing,” 

Here’s more:

Bank loan disposals to AMCs also mask underlying NPL increases, and direct asset purchases by AMCs from borrowers mean bad assets may never be formally recognised as NPLs within the banking system.


AMCs have only been granted licences from the CBRC to acquire restructured DAs directly from non-financial enterprises (NFE) since 2011. DAs purchased from these enterprises have since constantly increased as a share of the total. Fitch’s International Public Finance team estimates that 60%-70% of DAs restructured in 2010-2014 relate to the real estate sector. Many of the distressed property assets could be directly offloaded to AMCs without ever being recognised as bad loans through the banking system. This partly explains how reported NPL ratios for property loans are kept so low in China.

The primary source of traditional DAs is banks. Upon completion of debt acquisition, the AMC assumes the pre-existing rights and obligations between the banks and debtors, and realises or enhances the value of the assets primarily through debt restructuring, litigation and sales. However, most of the DAs acquired by AMCs since 2011 have come from NFEs. AMCs also buy restructured DAs from banks and non-bank financial institutions.

When AMCs acquire restructured DAs, they enter into an agreement with the creditor and debtor to confirm the contractual rights and obligations, and then acquire the debt from the creditor. The AMC, the debtor and its related parties also enter into a restructuring agreement that details the repayment amounts, the repayment method, repayment schedule, and any collateral and guarantee agreements. The restructuring returns and payment schedule are fixed at the time the restructuring agreements are made. 

Yes, "upon completion of debt acquisition, the AMC assumes the pre-existing rights and obligations between the banks and debtors, and realises or enhances the value of the assets primarily through debt restructuring."

Unless of course they decide they'd rather just sell them to the highest bidder online. 

As WSJ reports, China's AMCs are now so flush with "duds" they're finding it easier to auction the "assets" on Taobao.

No, really.

"These 'bad banks' nowadays would rather auction their inventory wholesale than restructure it the more traditional, painstaking way," The Journal says, adding that "the latest round is a giant dump of soured loans on Alibaba Group’s popular Taobao e-commerce platform by China Huarong Asset Management Co., the nation’s largest distressed-debt buyer by asset size." 

Huarong intends to sell some CNY51.5 billion worth of nonperforming loans on Taobao. This follows Cinda’s listing of CNY4 billion worth DAs and as Barclays notes, is "in line with [the] view that AMCs in general will more frequently resort to a “wholesaling model” for distressed asset disposal (i.e. quick sale of acquired NPL to other parties, thereby earning slimmer margins as opposed to gains on asset value appreciation), given the increasing NPL supply amid the current credit cycle."

In other words, loans are going bad so quickly in China that AMCs need to resort to "wholesaling" in order to keep pace.;Here's Barclays full take on the news:

  • We believe most of the reported distressed assets should be NPL from banks to be disposed of under the TDA model. According to media report (, 12 Dec 2015), the RMB51.5bn worth of distressed assets consist of debt claims to over 2,360 borrowers and 97% of these assets are lending secured by pledges, collaterals or guarantee. In terms of geographical distribution, 60% of the assets are from Zhejiang, Guangdong and Jiangsu province, according to the news report, consistent with the overall NPL formation trend we have observed in recent years.
  • The size of Huarong’s reported Taoba listing (RMB51.5bn) is larger than its outstanding TDA (RMB34.6bn) by the end of 1H15. According to news reports, it represents Huarong’s entire distressed asset book — which is unlikely to include the restructured distressed assets (RDA), in our view. Even if the company had not disposed of any TDA since 1H15, it would imply that it had acquired RMB16.9bn TDA so far in 2H15, exceeding the amount of RMB16.5bn acquired in 1H15. In comparison, Cinda’s listing of RMB4bn worth of distressed assets accounted for only 7% of its TDA balance as of 1H15 (RMB60bn).
  • We believe such a “wholesaling model” should reduce inventory risks for AMCs, thanks to the much faster asset turnover rate. In addition, it may provide more visibility on the operating trend of the business. As noted in our report (China Cinda Asset Management Co., Ltd.: Oversold high growth story, 13 Oct 2015), out of the RMB1bn worth of distressed assets Cinda auctioned on Taobao, 87% were successfully sold. However, given little disclosure on the acquisition cost, it is difficult to estimate the realized return rate on the disposed assets, which is quite sensitive to the assumption of acquisition cost (Figures 1 and 2).
  • In our view, the much larger size of Huarong’s reported Taobao TDA auction size compared to Cinda’s suggests that Huarong has a relatively weak franchise in the traditional NPL disposal business, as it may lack other means to dispose of the bulk of distressed assets acquired in recent years. Moreover, we believe AMCs should only dispose of assets that have relatively low appreciation potential under the new “wholesaling model” and aim to realize higher return rate on assets that have higher appreciation gain potential, which would generate sustainable income in the future even as it takes a longer time to dispose them of. As noted, we believe Cinda has a stronger franchise and strategic focus in the traditional NPL disposal business than Huarong in terms of both volume and return rate, thus we prefer Cinda given its higher probability of positive earnings surprise amid the NPL cycle.

Apparently, business is good if you're one of China's big four bad banks. "Cinda said its first-half profit this year rose 47.7% to 7.8 billion yuan from a year earlier," WSJ notes, while "Huarong’s net profit in the same period rose 39.4% to 9.87 billion." In all, "profit at China’s Big Four asset management firms rose 27.6% last year." 

Of course all of this is completely opaque. There's no way to determine what price the AMCs get at auction and although WSJ says "there are few signs that [AMC purchases from banks] have been outright bailouts of state lenders [given that] analysts estimate bad banks have been buying distressed assets at 40 cents on the dollar or less," there's no question that these operations are part of the larger effort to artificially suppress the offical bad loans data.

The takeaway, of course, is that NPLs are soaring in China which is a harbinger of more trouble to come in 2016. On the bright side, you now know where to go if you want to bid on $8 billion is nonperforming loans to Chinese corporates.