China's $3 trillion trust industry, a key alternative source of funds for weaker companies, risks sending shock waves through the nation's financial system with defaults among its investment products predicted to double this year under the strains of the coronavirus outbreak.
The once fast-growing pocket of shadow banking in China has 5.4 trillion yuan ($766 billion) in trust offerings coming due this year, high-yield products backed by loans that are sold to banks, institutional investors and wealthy individuals. About 300 of these products will go into default compared with last year's record 118, estimated Xu Zijun, a Beijing-based senior analyst at Reality Finance Research.
A hint of the wider danger came last month when Anxin Trust Co., a particularly aggressive shadow lender, said the government had been involved in its rescue plan to avoid triggering "systemic financial risks."
While Anxin has struggled for some time, its latest difficulties emerged as Chinese companies are rocked by the fallout of the virus outbreak that had shuttered large swathes of the economy. China's 68 trust companies are on the forefront of the calamity given they count property developers, manufacturers and local government financing vehicles among their biggest borrowers.
"Borrowers behind the trust products are those with a higher risk," said Yang Hao, an analyst at Nanjing Securities. "It represents the most vulnerable part of corporate financing and when a crisis comes, this is the first link to go awry."
The sector's asset quality will probably continue to deteriorate this year as slowing growth pressures highly leveraged borrowers or those heavily dependent on shadow banks, Moody's Investor Service said last month. Those stresses could ripple out to other parts of the system, said Michael Taylor, chief credit officer for APAC at Moody's. There could be direct exposure for banks owning trust companies and an indirect impact to lenders via common borrowers and more generalized risk aversion, he said.
More than 1,500 trust products with a value of 577 billion yuan were designated as risky at the end of last year, according to the China Trust Association, up from about 870 a year earlier. In fact, there were just two firms in the industry that had avoided defaults as of end 2019, Reality Finance's Mr. Xu said.
On the other side of these increasingly precarious products are wealthy investors, asset managers and banks such as China Zheshang Bank Co. and Heihe Rural Commercial Bank Co., which are among financial firms suing Anxin to recoup 1.7 billion yuan.
China's regional banks don't need another jolt. Authorities have already been forced to bail out or seize three lenders and quell bank runs by nervous depositors in the past year. Banks could face as much as $800 billion in loans going sour following the outbreak, S&P Global has said.