TJ
I am interested in these Chinese 'Trust Loans'. Yield seems great at 12-15%...or is this all some misunderstanding by the writer?
Cheers, T
Sunday, August 8, 2010
China's Inter-Company Lending Ponzi Dynamics
From China’s Shark Loan Ponzi Finance- Understanding China’s Shadow Banking System:
There are a lot of listed companies in China’s A share market that are borrowing at high interest rate loans from retail investors through “ Bank Trust Products”. These “Bank Trust Products” are packaged by Trust companies, and distributed by the banks through their retail networks all over China.
From Bankrupt Chinese Manufactures Lend to Real Estate Developers at Shark Loan Rates:
In China, domestic companies often borrow from other companies. (They can be affiliated or unaffiliated). It is a standard practice, and most of these inter-company borrowings are done in private accounts.
This loan practice is called a “Trust loan”, and is different from “trust products” or “trust investment products” that are sold to retail investors by the banks. The interest rates on these loans are very high, and often are more than a 15 percent annual rate. But compared to the shark loans that are carried out in private, the 10-15% annual interest rate of the inter-company “trust loans” is very low.
Besides the shark loan practices that are carried out between China's domestic SME’ and, Chinese residents there is a massive amount of "inter -company loan trusts” that are made between (often listed) companies. The funds are often channeled through banks, listed companies, and Trust companies and then reach real estate developers.
From China's Shark Loan Ponzi Finance- Chinese Companies Fail Due to Inter-Company Shark Loan Debts
Another Chinese listed company is in deep financial stress, due to 1.3billion in shark loan debt. An angry mistress reported the corruption of the chairman of Shenzhen International Enterprise (000056) to the Chinese authorities. In 2007, the company shifted its core business from managing department stores to commercial real estate developing. Years ago, one of the mistresses of its chairman began to report his corruption to the authorities. It turns out that he has at least 4 young mistresses, and has sent two of them to study abroad. He is suspected of transferring the listed companies profit to his mistress’s firm.
Facing stagnant real estate sales, China's real estate developers financing costs are skyrocketing. They have several options:
1. Equity financing, and secondary Offering: The cost is low; however, this door is practically shut due to the poor performance of China's A share market over the last year.
2. The domestic bond market: China's domestic bond market is underdeveloped; and only super size SOE's can tap this market
3. Regular Bank loans: the cost is between 5.4% and 5.7% annual interest rate. However, China's banks, facing the potential of surging NPL and government restrictions are tightening lending.
4. The overseas Bond market: the cost is quite high, and ranges between 10-14%. Only few firms that are listed abroad can tap foreign bond markets.
5. Trust Investment products sold by Chinese banks: the interest rate ranges between 12% and 20%. Banks have been ordered to shut down the issuance of these products in July 2010
6. Inter company Trust Loans: The interest rate is between 15% and 25% (The subject will be covered in this post)
7. Underground private shark loans: the annual rate is at minimum 20%, is usually between 30% 60%, and may reach up to 150% annual rate. Most of these loans are made on a monthly or quarterly basis
China's real estate developers, with their 70% plus leverage ratios, are turning to “inter-company trust loans” in order to pay back old loans, while others are turning to private loan sharks. Many developers thought that the Chinese government will loosen again by the end of the year and are borrowing at these shark rates in order to survive until free money comes back.
The reality is:
1. The Chinese government is in a dilemma, since there is not enough room for further stimulus and loosening of monetary policy. Interest rates are at an historical low, and China is suffering from very high inflation, if not outright hyperinflation. It is also facing public anger towards the high real estate and food prices
2. The majority of China's household financial wealth is already trapped in real estate, and there are ghost cities everywhere.
In the income statements of many public firms, there is an item called "investment income". Those who have experience in China's A share market know that investment income is often considerably larger than regular business income. The interest rate income from these kinds of "trust loans" is classified as investment income.
The "trust loans", which are also called "custodian loans", are different from the bank trust investment products. Bank trust investment products are loans that are repackaged by the banks and sold as trust products. (Much like they American CDO's and MBS's). The issue of bank trust investment products has already received public exposure through a report by Fitch.
Although the "inter-company trust loans" phenomenon has never gotten public exposure through major news sources; this kind of borrowing is very popular among big, medium and small Chinese firms, and is used in a much larger scale than the "bank trust investment products".
These are off balance sheet loans, and no research has been done on the scale of these high interest rate loans. Nor has any official figure been published. (With an average rate of 15%, it is three times the Bank of China's official rate).
Close to 90% Of China's SOE's, including those in sectors like Telecommunication, oil, steel, tobacco, education and consumer good have real estate subsidiaries. Companies like that use the parent SOE to borrow at low interest rates from the bank, and then lend the money to the real estate subsidiary. Beside that, they also lend money to other real estate developers that they have no connection with.
1/3 of China listed firms made official announcements regarding participation in "trust loan" business. This figure is probably an underestimation, since many public firms will avoid public exposure due to the negative reputation of such loans.
Many CEO's and senior bank executives are very active in introducing "trust loans" to their corporate clients, since the underground commission is 1% (that is on top of 1% fee openly charged by banks).
In 2008, there was a scandal covered in the Chinese media regarding China's Oil and Food Group that lent 2 billion to its listed subsidiary, a real estate developer called China Oil and Food Real Estate (000031). It appears that it is happening again, since a couple of weeks ago, 000031 made a public announcement, declaring that the parent company renewed a 1.5 billion “Custodian Loan” in order to support the real estate developer. (After the scandal in 2008, they have no option but to make this loan "official")
The majority of the “Trust loans” are made in private between companies, with or without bank participation. It only gets exposure when the company involved is a publicly listed firm.
A good example of the inter-company trust loan phenomenon is the story of a former Shanghai party leader, Mr. Chen Liang Yu. He has been put into prison a couple of years ago, even though he is a member of China's national political bureau (His imprisonment is most likely a result of some kind of political struggle). He was put into prison for lending 7 billion Yuan as a "trust loan" to a Hong Kong real estate developer. The funds were stolen from the Shanghai social security fund.
After the social security fund case has been exposed, China's national Auditor issued a no.86 audit report titled “Shanghai city social security fund management special audit report”. This report mentioned that the majority of the 30 billion social security fund had been lent to 44 real estate developers through trust loan arrangements. By July of 2006, the total amount of loans was 20.1 billion. To put that number in perspective, according to the Shanghai banking regulatory committee, total bank loans for real estate developers in Shanghai was less than 100 billion.
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