Several months ago I speculated in one of my postings that one likely consequence of the effort to tighten caps on loan growth is that banks will be more eager to bundle, securitize and sell loans as a way of creating more room under their loan growth caps to expand their lending to important clients.Typically bankers resist selling loans, even though it makes great economic sense for the bank to eliminate the risk and retain a spread, because their importance tends to be based on total revenues associated with their loan books or total assets under management, and loan sales immediately reduce both.I remember from personal experience that in the 1980s American banks faced this problem – management wanted to make their loan books more liquid but the officers responsible for the individual loan books rarely cooperated with the process.
If loan caps are serious, however, it eliminates a lot of the resistance because loan officers need to keep their clients happy and loan sales immediately open up space to book new loans.To the extent that this happens, of course, it will undermine the effectiveness of loan caps on preventing overinvestment, but on the other hand even if the market for loan securitizations develops quickly, as I think it will, it is still currently small enough that its effect won’t be too great.
Yesterday Bloomberg had this article, describing exactly the type of transaction I meant. The article mentions a total of only around $10 billion completed and pending deal.
ICBC to Raise $1.1 Billion Selling Asset-Backed Securities
By Luo Jun
March 21 (Bloomberg) -- Industrial & Commercial Bank of China, the world's biggest bank by market value, plans to raise 8 billion yuan ($1.1 billion) selling asset-backed bonds by pooling loans it made to Chinese companies. The bonds, divided in three portions with different ratings, will be sold to members of the nation's interbank market on March 27 and 28, the Beijing-based bank said in a statement yesterday. ICBC sold its first asset-backed securities last October, raising 4.02 billion yuan. As much as 60 billion yuan of asset- backed transactions were pending regulatory approval in China at that time, according to an estimate by HSBC Holdings Plc, which advised on the deal.
The sale followed similar offerings by Shanghai Pudong Development Bank Co., China Development Bank and China Construction Bank Corp. Bank of China Ltd., the country's third largest, plans to sell mortgage-backed securities this year to make way for new loans as regulators limit growth in lending, Chairman Xiao Gang said.
China’s regulators have told banks to hold growth in new loans at the same pace as last year to help tame the nation's 11- year-high inflation. Banks must meet annual and quarterly growth targets to avoid penalties. Securitization can take loans off a bank's balance sheet, leaving more room for new advances, according to Xiao.
Given high liquidity in the system, low interest rates, and nervousness about the stock and real estate markets, my guess is that it will not be terribly hard to sell these securitizations after perhaps an initial period during which buyers test the market.Any of my students interested in investment banking careers might want to try to understand how these deals work.I think this is going to be a growing market in China over the next few years.
I note that these are being sold to banks. Under the relevant accounting rules, does buying a bond not count as "lending", at least not lending subject to the lending caps? Isn't all we are really doing here is changing the type of loan and spreading it around among several banks instead of concentrating it in just one?
I also wonder whether there are any examples of these things being sold to the public. Regulatory approval from the CSRC would be needed, among other things. I might also note that the idea of these things being "asset backed" is based to a large extent on a hope and a prayer, since for asset backing to function we would need a system for actually realizing on the security interest if things go bad. This means a bond trustee (or something similar) with the ability *and the incentive* to take possession of the assets that are backing the bonds, and a court system that would cooperate. That these exist is far from clear. (For example, the Supreme People's Court has issued a notice essentially forbidding courts from foreclosing on residences that secure residential housing loans.) I certainly second Michael's suggestion that it would be worth learning how these things actually purport to work.
- Are the loan caps for bank corporate loans specifically or do they apply to all lending?
- Are the caps in place to address funding/balance sheet issues, or credit risk? If it's the latter, you could see this market really taking off in synthetic form with no need to really have perfected security (beyond it's implications for recoveries).
By Sami Mesrour - 3/24/2008 3:30 AM
Don, for the most part I expect that they are being sold to banks, including small banks and foreign banks who have had trouble getting into the loan market. At some point I expect that they will also be sold to investors.
Sami, the loan caps apply to loan growth in general. The pr\urpose of the loan caps is to slow loan growth and, with it, overinvestment and demand.
By Michael Pettis - 3/24/2008 11:18 AM
Don, I just checked with one of my former students who now trades in Shanghai. He told me that banks are the main buyers of these securitized loans, but they do not come under the lending cap. In other words, if Bank A repackages and sells a loan to Bank B, Bank A's loan book declines, Bank B's loan book does not rise.
By Michael Pettis - 3/26/2008 12:03 PM
Banks have become the catalyst of what the Mayans predicted for 2012, a new cosmic cycle. I reckon we will go the more traditional bartering techniques where instead of sheep we shall trade in gas, natural resources in order to satisfy the increasing and exponential supply and demand dynamics of the 21st century...
Michael Pettis is a professor at Peking University's Guanghua School of Management, where he specializes in Chinese financial markets. He has also taught, from 2002 to 2004, at Tsinghua University’s School of Economics and Management and, from 1992 to 2001, at Columbia University’s Graduate School of Business. He is a member of the board of directors of ABC-CA Fund Management Co., a Sino-French joint venture based in Shanghai.
Pettis has worked on Wall Street in trading, capital markets, and corporate finance since 1987, when he joined the Sovereign Debt trading team at Manufacturers Hanover (now JP Morgan). Most recently, from 1996 to 2001, Pettis worked at Bear Stearns, where he was Managing Director-Principal heading the Latin American Capital Markets and the Liability Management groups. He has also worked as a partner in a merchant banking boutique that specialized in securitizing Latin American assets and at Credit Suisse First Boston, where he headed the emerging markets trading team. Besides trading and capital markets, Pettis has been involved in sovereign advisory work, including for the Mexican government on the privatization of its banking system, the Republic of Macedonia on the restructuring of its international bank debt, and the South Korean Ministry of Finance on the restructuring of the country’s commercial bank debt.
Pettis is a member of the Institute of Latin American Studies Advisory Board at Columbia University as well as the Dean’s Advisory Board at the School of Public and International Affairs. He is the author of several books, including The Volatility Machine: Emerging Economies and the Threat of Financial Collapse (Oxford University Press, 2001). He received an MBA in Finance in 1984 and an MIA in Development Economics in 1981, both from Columbia University.
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Comments (5) for "Chinese loan sales"
- 3/23/2008 11:55 AM
December, 2007