Chinese banks prepared for corporate defaults

SHANGHAI -- Chinese banks have the means to deal with corporate bond and trust defaults, Deutsche Bank said in a research note on Tuesday.

A study by the bank found that listed Chinese banks hold 37 percent of outstanding debts in China's corporate bond market and have provided 36 percent of the funding for the country's trust sector.

That puts 88 billion yuan ($14.14 billion) worth of bank assets at risk. But according to Deutsche Bank, they are well covered by the 819 billion yuan the banks have set aside to cover bad assets.

The bank said its study covers 2,400 corporate bond issuers and 13,000 trust products, with a total credit balance of 237 billion yuan.

The bank said only 22 out of 2,400 bond-issuing firms are highly risky, and their total outstanding debt as of February this year stands at 28.6 billion yuan. Sixty-five percent of these firms are from industries saddled with overcapacity, including the steel, mining, metal and solar sectors.

Up to 132 billion in collective trust products, the major risk in China's shadow banking system according to Deutsche Bank, is at risk of default in an extreme scenario.

Financial results released by listed Chinese banks earlier this month revealed a steep increase in distressed assets on their balance sheets in 2013.

Bad loans in the Chinese banking system stood at 100 billion yuan last year, of which China's five major state banks have accumulated 76.3 billion in the same period, up more than 150 percent from a year ago.

As a result, Chinese banks have been more aggressive in writing off bad assets in an attempt to keep the ratio of non-performing loans largely unchanged at 1 percent.

China also witnessed the first onshore corporate default in March when a Shanghai-based solar firm failed to pay 89.8 million yuan in interest.

Meanwhile, authorities and banks have shown growing reluctance to bail out troubled assets, which analysts said could help correct distortion in risk pricing but could also stoke fear of more defaults to come.

Deutsche Bank said while May and June could see a peak number of bonds and trust products come due, investors could learn that actual defaults are less than they thought, regaining confidence in Chinese banks.

The report also added that it is normal for defaults to rise steadily as a way to correct distortions in pricing credit risks and improve the efficiency of capital allocation.

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