China Banks:The sheriff has arrived – regulator targets off-balance-sheet lending

Monetary data indicates slowdown in shadow banking following regulatory tightening. On-balance sheet lending is still largely within expectations.

April new loans amount to RMB774.7b, below consensus of RMB800b though loan structure still supportive. New MLT loans remained stable, but new short-term loans declined MoM. The loan structure is positive as MLT loans are usually FAI related and support economic growth.

TSF beat due to pickup in bond issuances despite slowdown in shadow banking. TSF reached RMB1.55t, above consensus of RMB1.475t. Bond financing is recovering after the regulatory crackdown last year. Off-balance-sheet lending, including entrusted loans, trust loans, and non-discounted bank bills, slowed MoM, mainly because of the hard line taken towards shadow banking by the PBOC and CBRC.

Temporary rebound in M2 growth due to low base last year. M2 was up 13.2% YoY, 1.1ppt higher than in March. Deposits were down RMB654.6b MoM following the typical seasonal pattern after the March loan-to-deposit ratio (LDR) check. Thus, the decline in deposits is not a major concern.

NPC and PBOC deliver clear message on surging interbank and WMP business. Wu Xiaoling, director of the NPC financial committee, and Liu Shiyu, vice governor of the PBOC, delivered the keynote speeches at a recent forum held at Tsinghua PBC School of Finance (details below). After a close reading of the transcripts we conclude there will be (1) a cap on interbank business, (2) increasing RWA weighting towards interbank business, and (3) provisioning requirements for interbank business.

Tighter regulations negative to banks. Smaller banks will be more adversely affected as they are more involved in interbank business by way of trust beneficiary rights (TBR) and assets under resale agreements (e.g. bills and TBRs). State-owned banks tend to be more conservative when it comes to interbank business. A tightening regulatory environment will have a negative effect on investor sentiment towards the China banks. In the second half of the year, we also expect more event risk, both on- and off-balance sheet. Bank stock prices are likely to remain range bound.