Analysis: China's 'mini-Lehman' moment to spur smaller bank consolidation

Bank of Jinzhou Co

07/06/2019 24:00

* Baoshang Bank seizure likely trigger for consolidation
push
    * At least 18 smaller banks have not published latest
financials
    * Mid-, small-sized banks account for 26% of total banking
assets 

    By Sumeet Chatterjee and Cheng Leng
    HONG KONG/BEIJING, June 7 (Reuters) - China is set to see
consolidation among its smaller banks after a rare government
seizure of a troubled Inner Mongolia lender in May, as Beijing
looks to avert any systemic risk amid a slowing economy and an
escalating trade war with the United States.
    Mergers of weaker small banks with stronger peers is seen by
analysts as the best option for a sector reeling from rising bad
loans and funding costs, and which Beijing is wary of due to the
likely knock-on effects should some lenders start to fail.
    Although the central bank said on Sunday it was not planning
any more seizures for the moment after taking over Baoshang Bank
on May 24, citing serious credit risks, analysts see the move as
a precursor to sector consolidation.
    "This is China's mini-Lehman moment," said Natixis' chief
economist Alicia Garcia Herrero. "The regulators would start
looking at consolidation as a real option ... this is just a
trigger for that," she said referring to Baoshang's takeover.
    The People's Bank of China (PBOC), the central bank, and the
China Banking and Insurance Regulatory Commission (CBIRC) did
not respond to Reuters request for comment.
    China's move to head off any instability among its
4,000-plus banks comes as Beijing faces pressure to boost bank
lending to help cushion the economic impact from the higher
tariffs on Chinese imports imposed by the United States.
    While the country's Big Five banks, including the likes of
Industrial and Commercial Bank of China  601398.SS  and Bank of
China  601988.SS , dominate the sector, smaller banks still
account for a quarter of assets, according to regulatory data,
and have complex ties to the broader financial system.
    Total assets of mid- and small-sized banks reached 68.6
trillion yuan by end-2018, accounting for 26% of the total
market share of financial institutions, up from 18% in 2008,
according to Chinese brokerage CICC.
    
    
    Although small banks are not by themselves seen as a
systemic risk, the concern is that enough of them have largely
funded themselves via short-term money market borrowing, posing
a collective danger if one or two fail.
    Many smaller banks have also invested heavily in shadow
banking products. Often classified as receivables on balance
sheets, these tend to actually involve loans and grew at a much
faster pace than other assets and deposits. (for an interactive
graphic on China bank bad loans, click:https://tmsnrt.rs/2WT8M8m)
    Moreover, at least 18 smaller institutions haven't published
up-to-date financial reports, and in some of those cases senior
regulatory officials have been appointed for bank management
oversight.
    Last week one lender, Bank of Jinzhou  0416.HK , said its
auditor EY had quit before signing off on its 2018 accounts,
after being unable to agree with the bank on how it could check
out loans where the actual usage did not match the purpose
stated in the original documents.
    "With the amount of loan defaults surging, one or two
(client) defaults will be big enough to drag some of the medium
and small-sized banks, usually the main creditors, into a
similar situation to Baoshang," said a Shanghai-based lawyer. 
    
    WHO NEXT?
    The problem for investors is identifying which of the weaker
banks could be next to go, as well as how any seizure or forced
consolidation might happen.
    In Baoshang's case, state-backed Big Five member China
Construction Bank (CCB)  601939.SS   0939.HK  has been tasked
with taking over the operations for a year.  urn:newsml:reuters.com:*:nL4N2362M0
    But there were still some expectations about CCB being asked
to consolidate Baoshang, JPMorgan said in a research note.
    UBS analyst Jason Bedford said consolidation would
accelerate but it would mainly be restricted to intra-province
because of the bureaucratic hurdles involved in crossing
provincial borders.
    "There are other banks in trouble, and some banks are just
in trouble not because they built up a large shadow loan book,
but because they are in a difficult regional economy," he said.
    Harry Hu, senior director at S&P Global Ratings, said
smaller banks with more concentrated exposures to sectors
affected by the trade tensions would be under pressure to
consolidate. 
    "In our view, consolidations within the banking sector will
continue ... and financial stability as well as commercial
interests are both important considerations to the authorities."

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China banking sector bad loans    https://tmsnrt.rs/2WNxA1I
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 (Reporting by Sumeet Chatterjee in Hong Kong and Cheng Leng in
Beijing; Editing by Jennifer Hughes and Muralikumar
Anantharaman)
 ((sumeet.chatterjee@thomsonreuters.com; +852-2847 2094; Reuters
Messaging: sumeet.chatterjee.thomsonreuters.com@reuters.net))