China's shadow banking fallout is necessary headwind says Absolute Asia CIO

Chinese banking reforms, particularly those directed at regulating new wealth management products, are a necessary headwind to the sector, according to Bill Sung, CIO of Natixis affiliate Absolute Asia Asset Management.

The Chinese government has promised to monitor shadow banking channels after private firms, finding it difficult to secure loans from state-owned banks, turned to unreglated forms of funding.

'The Chinese government understands that the state-owned banks have failed in their role to ensure the efficient flow of capital throughout the economy,' said Sung who manages over $1 billion across a number of funds, including the  Absolute Asia AM Pacific Rim Equities fund.

'They will compromise short to medium term growth but it's necessary for lending growth to be sustainable.'

The latest efforts to address financing channels that fall outside state-controlled banks came after Huaxia Bank failed to repay investors promised returns on a wealth management product.

Such wealth management products are typically securitized project loans or corporate loans that often promise double-digit returns. Crucially, the products offer yields much higher than those of government-set interest rates yet retail investors are supposedly uninformed of the high risks.

'There is a risk that these products sold by banks to their depositors could fail due to default of the underlying project or corporate loans. The banks are now required to make some sort of provision for these wealth management products they have sold.'

Between privatisation and regulation

Beside regulation on less official forms of funding, the Chinese financial sector is undergoing a number of changes including interest rate deregulation and increased competition from private lenders.

'The government wants to push through with banking reforms and so far, their actions are consistemt with their determination,' said Sung, who is currently holding a neutral position on the sector ahead of the National People's Congress meeting in March.

'We think the government wants interest rates to be determined more by market dynamics. This could introduce more volatility to the cost of funding for state-owned banks.'