credit risk in chinese banks

Credit Risk in China’s Banking Sector Prepared by Fay Zhou Aug 7th, 2013

A look at our report methodology and purpose

•  Findings based on •  Secondary research - internal knowledge, government,

vendor and financial institutions’ reports. •  Report purpose:

•  Identify the current trends of credit risk in Chinese banks •  Define the characteristics of credit risk in Chinese banks •  Understand Chinese credit risk regulation •  Provide Recommendations for banks to improve credit risk

management

2

Section 1: Chinese Bank Credit Risk Overview Section 2: Characteristics of Credit Risk in Chinese Banks Section 3: Credit Risk Management Regulations Section 4: Recommendation to Reduce Credit Risk

Overview - Credit Risk in China’s Banking Sector

4

44.5 46.6 48.5 50.2 51.7 54.62

16.20%

15.70% 15.90%

16.70%

16.10%

17.30%

14.50%

15.00%

15.50%

16.00%

16.50%

17.00%

17.50%

0

10

20

30

40

50

60

2011-Q4 2012-Q1 2012-Q2 2012-Q3 2012-Q4 2013-Q1

Gro

wth

Rat

e

Tota

l Loa

n B

alan

ce (T

rillio

n Yu

an)

Loan Balance in Chinese Banks, Trillion Yuan

Total Loan Balance Growth Rate (Y-O-Y)

Source: CBRC, 2013

•  Chinese banks highly rely on loan business for profits •  Credit Risk - the most important risk in Chinese banks •  Increase on loan balance => potential credit risk


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•  Upward trend on NPL Ratio from 2012 => Higher risk to receive loan repayment

•  Rural commercial banks have highest NPL ratio

427.9 438.2 456.4 478.8 492.9 526.5 0.96%

0.94% 0.94%

0.95% 0.95%

0.96%

0.93%

0.94%

0.94%

0.95%

0.95%

0.96%

0.96%

0.97%

0.0

100.0

200.0

300.0

400.0

500.0

600.0

2011-Q4 2012-Q1 2012-Q2 2012-Q3 2012-Q4 2013-Q1

NP

L R

atio

NP

L B

alan

ce

Chinese Bank Non-Performing Loan Ratio

NPL Balance NPL Ratio

Source: CBRC, 2013


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•  Provision coverage ratio - the ability that bank possessed against non-performing

•  Increased provision coverage ratio => enhanced risk absorbing capability

Source: CBRC, 2013

41.40%

116.60%

153.20%

217.70%

278.10% 295.50% 292.00%

0.00%

50.00%

100.00%

150.00%

200.00%

250.00%

300.00%

350.00%

2007 2008 2009 2010 2011 2012 2013-Q1

Provision Coverage Ratio


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•  Capital adequacy ratio – held capital to meet potential credit, operational, and market risks

•  Risk resilience is the ability to control and manage credit risk

Source: CBRC, 2013

8.40%

12% 11.40%

12.20% 12.71%

13.30% 12.28%

0.00%

2.00%

4.00%

6.00%

8.00%

10.00%

12.00%

14.00%

2007 2008 2009 2010 2011 2012 2013-Q1

Capital Adequacy Ratio in Chinese Banks

Overview - Expenditure on Credit Risk Management

8

•  Forecasted IT spending on credit risk management system (thousand Yuan)

Source: IDC, 2012

2012 2013e 2014e 2015e 2016e

Storage 1108.2 1363.1 1676.6 2062.3 2536.6

Server 779.3 944.5 1144.8 1387.5 1681.6

Network 347 412 490 582 691

Infrastructure Software 194 232 276 329 392

Application Software 355 438 540 666 821

Application Service 445 561 708 893 1126

Characteristics of Credit Risk in Chinese Bank

•  Concentrated Credit Risk in State-owned Banks and in certain industries

•  Concentrated credit risk in certain industry

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Source: CBRC, 2012

0.00% 5.00% 10.00% 15.00% 20.00% 25.00% 30.00% 35.00% 40.00% 45.00% 50.00%

State-owned Bank

Joint-stock Bank

Rural Financial Institutions and Postal Saving Bank

47.30%

16.20%

15.20%

BANK MARKET SHARE (BASED ON ASSET)

Characteristics of Credit Risk in Chinese Bank

•  Increasing Shadow Banking System

Ø  Shadow banks- financial intermediaries are not subject to regulatory oversight

Ø  Size: 22.9 Trillion Yuan (US$3.7 Trillion) ->Increased credit risk

•  Non-strict Loan Investigation Ø  Unqualified lending – 24.57 Billion Yuan Ø  Potential credit risk from unqualified project and firm

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Current Chinese Credit Risk Management Guidelines

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•  Guidelines for the Supervision of the Internal Rating System for Credit Risk of Commercial Banks o  Purpose – improve credit risk management ability by

establishing an independent and internal credit rating department

State-owned Bank Cooperative Institution Result

ICBC PwC

Internal Rating System Customer Rating

Debt Credit Rating PD and LGD Measurement

Non-retail Credit Rating

BOC McKinsey PD Model Credit Information System

BOC (Hong Kong)

Hong Kong Monetary Authority

S&P

Internal Rating System Default Filter

CCB - Corporate Credit Risk Rating Warning

System Internal Rating System

BOComm Oliver Wyman Internal Rating System ABC Experian Internal Rating System

Current Chinese Credit Risk Management Guidelines

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•  Guidelines on the Measurement of Regulatory Capital of

Specialized Loans of Commercial Banks o  Purpose – better regulation of specialized loans

•  Guidelines for the Measurement of Regulatory Capital for Credit Risk Mitigation in Commercial Banks o  Purpose – define the features, evaluation method, management

process, corresponding information system of credit risk mitigation

Mitigating Credit Risk in Chinese Banks

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•  Credit Rating System Ø  Independent internal and external credit rating system Ø  Data collection on loss given default (LGD), and probability of

default (PD) Ø  Conduct standard on data quality to enforce the accuracy and

comprehensiveness of business data Ø  Implement advanced credit risk measurement model and

internal rating system

Mitigating Credit Risk in Chinese Banks – Collateral

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Types of Collateral Collateral Eligibility Collateral Management

Cash Fix-Income Securities

Bank Guarantees Equities

Real Estate Convertible Bonds

Commodities

Liquidity Easy to settle Default Free

Recognized Collateral Type

Collateral Valuation Margin calls

Liquidity Risk Monitoring Market Risk Monitoring

Cross-pledged Relations Monitoring

Substitution

Advantages: Reduce credit risk,

Diversification, Improve liquidity,

Higher profits

Disadvantages: Operational risk,

Market risk, Legal risk, Settlement risk,

Valuation risk

Mitigating Credit Risk in Chinese Banks

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•  Application of Credit Derivatives Ø  Separate and transfer the credit risk of an asset from one

counterparty to another Ø  Reduced credit risk concentration Ø  Facilitate credit derivative innovation => improving

comprehensive management Ø  Strengthen CDs supervision

•  Credit Environment and Culture Ø  Eliminate improper operation on loan credit rating and loan

granting

For more information about the topics covered in this webinar or Kapronasia, please visit www.kapronasia.com or send us an email: [email protected]. Twitter: @chinafintech

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