Just as their American counterparts, Chinese equities have rallied over the last 12 months. So much so that they might be approaching a very good short entry point.
The fundamentals haven’t changed. If anything, China’s bubble is now much bigger.
Just How Big Is China’s Credit Bubble?
The problem is, no one really knows.
The chart above is truly jaw dropping. I have written about China quite a few times last year. For instance, Is China About To Collapse – Drag Us All Down
Recently, there has been quite a bit of news that China’s credit bubble might be much bigger than anyone believes. That shouldn’t come as a surprise to the readers of this blog.
- Billionaire Kyle Bass is Betting on a China Collapse
- Chart shows China’s debt bubble bigger than subprime bubble
- China’s Corporate Bonds Too Murky for Many Investors
Hedge fund manager Kyle Bass has a very good take on the same subject matter. A view worth studying.
Over the last ten years, China’s banking system has grown from less than $3 trillion to $34 trillion, equivalent to around 340% of Chinese GDP. To put it in perspective, the US banking system had about $16.5 trillion of assets heading into the financial crisis, equivalent to 100% of US GDP. “Credit has never grown faster or larger than it has in China over the past decade,” Bass wrote in a letter to investors dated February 10. There is no precedent.
He goes on to say….
What does this mean for Chinese banks? There is a bad answer and a worse answer. The bad answer is that Chinese bank capital – the equity buffer – is significantly overstated. A TBR requires much less capital to be set aside (only 2.5c as opposed to 11c for an on-balance sheet loan) at the time of origination (anyone thinking Fannie and Freddie?). Adjusting reported bank capital ratios for this effect changes reasonable 8-9% Core Tier 1 capital ratios (CT1) to undercapitalized 5-6% levels. Now, the worse news. TBRs are one of the biggest ticking time bombs in the Chinese banking system because they have been used to hide loan losses.
“One can make many assumptions regarding the collectability of such loans, but our takeaway is that the system is already full of massive losses,” he said. WMPs, TBRs, and the 8,000+ credit guaranty companies constitute the majority of China’s shadow banking system. This system has grown 600% in the last 3 years alone. This is where the first credit problems are emerging, away from the eyes of regulators. The Chinese government has the capacity and the willingness to do what it needs to do to prevent a banking system collapse. China will save its banks, and the renminbi will be the valve for normalization. It is what any and every government would do if put into a similar situation. China should stop listening to Kuroda, Lagarde, Stiglitz, and Lew and start thinking about how to save itself from the impending disaster in its banking system.
What does all of that mean?
China only has two options. An outright banking and economic blowup/collapse or substantial Yuan devaluation. Invest accordingly.