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IHT.com Article: Subprime crisis hits China, as banks disclose exposure

Message-Id: <20070824124228.5550EFA2E@dumpty.iht.com>
Date: Fri, 24 Aug 2007 08:42:28 -0400 (EDT)

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Subprime crisis hits China, as banks disclose exposure

After appearing immune to the turmoil unleashed on world markets from high-risk home lending in the United States, China suffered its first serious setback Friday from the meltdown in subprime loans.

Investors punished China\'s flagship lender, Bank of China, after it disclosed the biggest exposure revealed so far of any bank in Asia to this segment of the U.S. mortgage market.

full article

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Subprime crisis hits China, as banks disclose exposure
By David Lague International Herald Tribune
Friday, August 24, 2007

After appearing immune to the turmoil unleashed on world markets from high-risk home lending in the United States, China suffered its first serious setback Friday from the meltdown in subprime loans.

Investors punished China's flagship lender, Bank of China, after it disclosed the biggest exposure revealed so far of any bank in Asia to this segment of the U.S. mortgage market.

Shares in the bank, the second-largest in China, fell 5.4 percent to close at 3.87 Hong Kong dollars, or $0.50, after it reported holding almost $9.7 billion in securities backed by subprime mortgages.

That is about 3.5 percent of its total securities portfolio.

Industrial and Commercial Bank of China, the biggest Chinese lender, also suffered at the hands of investors Friday after it disclosed that it was holding $1.23 billion in securities backed by these mortgages.

The potential for losses on these investments is a blow to the two state-controlled lenders, which have been at the forefront of China's efforts to clean up its vast, inefficient banking system and halt the accumulation of bad loans.

China has spent more than $280 billion since 1998 to clear bad loans from the books of its state-controlled banks and prepare them for competition from the foreign banks that are now beginning to expand their operations in mainland cities.

Banking experts remain confident that any losses arising from subprime loans suffered by Bank of China, the Chinese bank with the biggest exposure to foreign markets, were unlikely to seriously jeopardize its financial performance.

"We expect the losses are not going to be unbearable," said Charlene Chu, a banking analyst with Fitch Ratings in Beijing. "They should be able to absorb them pretty easily."

But the unexpectedly high combined exposure of the two Hong Kong-listed banks to these loans has clearly rattled investors.

The value of Bank of China's holdings of securities backed by the U.S. mortgages is roughly equal to its 2006 operating profit, analysts said.

A third state-controlled Chinese bank, China Construction Bank, which has also floated a minority of its shares in Hong Kong in recent years, is expected to come under close scrutiny Monday when it reports its first-half results.

Before Bank of China and ICBC reported their exposure to these loans Thursday, tight Chinese capital controls, restrictions on investing overseas and a strictly controlled media had left many with the impression that the world's fastest-growing major economy was insulated from the subprime crisis.

As foreign markets have plunged on fears of a credit squeeze, the Chinese stock market has continued to power ahead, rising almost 90 percent this year on top of a 130 percent increase in 2006.

The Chinese CSI 300 benchmark index added 81.65, or 1.6 percent, to close Friday at 5,217.58, a record.

Analysts noted that despite plunging in Hong Kong, shares in Bank of China and ICBC gained ground Friday in Shanghai, possibly because the state-controlled media highlighted both banks' strong profit growth rather than their subprime exposure.

And, as central banks around the world have pumped liquidity into the financial system and eased interest rates to calm markets, China has continued to soak up cash in the economy and increase the cost of borrowing.

China's central bank, the People's Bank of China, raised interest rates this week for the fourth time this year in an attempt to slow growth and contain soaring consumer prices.

For Chinese banks, an extended period of economic growth has allowed them to strengthen their balance sheets and improve their lending practices, according to most banking experts.

According to official statistics, nonperforming loans account for about 7 percent of all lending on the books of commercial banks in China, a sharp decline from the early years of this decade when the ratio was estimated to be as high as 25 per cent.

However, some critics of Chinese banking reforms point out that one reason for this apparent improvement is that lending has increased rapidly in recent years.

With more new loans on their books, bad loans have shrunk as a proportion of overall lending.

The danger for China is that in the event of an economic slowdown, a new wave of nonperforming loans could wash through the banking system.

In announcing a 52 percent increase in profit for the first half, which stood at $3.9 billion, Bank of China said $150 million had been set aside to cover any losses on its subprime investment.

So far, no losses have been booked.

"In the future, we will closely monitor changes and prudently manage our asset portfolio to effectively control market risk," the bank said.

Banking experts said that Bank of China's subprime holdings had been rated as high-quality investments and it was reasonable to assume that the bank would only suffer modest losses at most.

"If we do see significant losses at these levels, there will be a lot of other banks around the world reporting significant impacts," Chu said.

Analysts said ICBC's much smaller exposure would limit any financial loss.

http://www.iht.com/articles/2007/08/24/business/chibank.php

posted by Victor Lloyd Smith @ 8:45 AM