For years, increasing consumer spending has been a significant component of government strategy to create more balanced growth by raising the percentage of private consumption in GDP and making the economy less reliant on the traditional drivers of investment and exports.

China‘s banks have been pushed to boost lending to individuals through consumer loans and credit cards to diversify their profits and reduce their reliance on the business sector.

Financial regulators have tried hard to bring credit to the public by encouraging the development of online financial services as part of a larger initiative known as inclusive finance, which aims to provide low-cost access to savings, loans, and insurance to underbanked small businesses, low-income households, and rural residents who are primarily ignored by commercial banks.

These policies resulted in a boom in peer-to-peer (P2P) lending, which eventually crashed, an explosion in microlending provided by fintech behemoths such as Ant Group Co. Ltd. and Tencent Holdings Ltd., and regulatory approval for licenced consumer finance companies founded primarily by banks, insurers, former P2P lenders, financial conglomerates, internet platforms, or new market entrants.

As a result of these measures, outstanding consumer loans excluding mortgages in China, increased to 17.24 trillion yuan ($2.42 trillion) in 2022, up from 3.96 trillion yuan in 2013. Within that total, medium- and long-term loans increased by 22.2% yearly to 7.89 trillion yuan from 1.3 trillion yuan.

Over the same period, China’s household debt-to-GDP ratio nearly quadrupled to 61% from 33%, according to figures gathered by the Bank for International Settlements. Although it is slightly higher than the G-20 average of 60%, China’s household debt ratio has scarcely changed.

An increase has followed the credit boom in NPPLs in China.

According to its 2022 results report, Hangzhou-based China Zheshang Bank Co. Ltd.’s NPPLs increased 53% last year to 6.2 billion yuan.

The People’s Bank of China earlier announced that NPPLs totalled 710.3 billion yuan at the end of 2018, an amount that Hainan Haide Capital Management Co. Ltd. calculated at the time equated to 25% of commercial banks’ total nonperforming loans (NPLs). Since then, the central bank has not publicly updated the statistics.

In its 2022 results report, Hainan Haide, a Shenzhen-listed asset management firm (AMC) specialising in NPL disposal, projected that banks’ outstanding NPPLs last year totalled 750 billion yuan, with non-bank financial institutions (NBFIs) holding another 750 billion yuan.

According to Hainan Haide, the volume of new NPPLs is likely to be over 1.6 trillion yuan each year over the next few years, with NPPL disposal potentially amounting to more than 3 trillion yuan annually.

As the number of NPPLs increased, authorities realised they needed to create an orderly and transparent market for financial institutions to dispose of bad debts, just as they had done for corporate NPLs.

In January 2021, the China Banking and Insurance Regulatory Commission (CBIRC) announced a two-year trial programme to allow 18 large banks to bundle and sell their NPPLs to other financial institutions. Initially, the top six state-owned commercial banks and 12 national joint-stock commercial banks were allowed to issue NPPL bundles that included consumer loans, credit card debt, and business loans but not mortgages.

Buyers were financial institutions, primarily financial AMCs, including those controlled by local governments, having a solid track record and permission from their respective local financial supervision and management bureaus. They are also required to get a licence to purchase NPLs.

Institutions that wish to acquire and sell NPPL packages must first open an account with China Credit Assets Registration and Exchange Co. Ltd., a state-owned corporation founded in 2014 that offers a trading platform for financial institutions.

The China Banking & Insurance Regulatory Commission said on December 30 that the pilot had gone well and would be extended until the end of 2025.

It would also allow more institutions to participate, including trust companies, consumer finance companies, auto finance companies, financial leasing companies, city commercial banks, and small and midsize rural banks in nine China’s provinces, namely Hebei, Inner Mongolia, Liaoning, Heilongjiang, Jiangsu, Zhejiang, Henan, Guangdong, Gansu, Beijing, and Shanghai.

As of the end of May, 749 institutions in China had established NPL trading accounts, allowing them to trade corporate and personal NPLs. Since the experiment was expanded, 151 more merchants and buyers have joined the marketplace. By the end of 2022, 131 transactions involving NPPL packages totalling 22.3 billion yuan had been completed through the exchange in China.

Extending the pilot and allowing more financial institutions to participate is crucial to assisting small and midsize banks and consumer lending organisations offloading their rising mountain of NPPLs and relieving strain on their balance sheets in China.

Because they are prominent in lower-tier cities and among lower-income people, consumer finance businesses and smaller banks in China are more susceptible to personal lending. Their primary customers are less affluent people or micro and small companies that are neglected by larger banks because they are not profitable enough, have higher wrong loan percentages, and entail more legal challenges.

On the exchange, three sellers from the extended set of qualifying institutions have already offered NPPL bundles.

1) Home Credit Consumer Financing Co. Ltd., China’s first entirely foreign-owned consumer financing firm, is owned by Home Credit NV of the Netherlands.

2) PSBC Consumer Finance Co. Ltd. of China, a joint venture operated by Postal Savings Bank of China Co. Ltd. and with Singapore lender DBS Bank Ltd. as a stakeholder.

3) Jiangsu Jiangnan Rural Commercial Bank Co. Ltd., a rural commercial bank in Jiangsu, China’s eastern region.

Home Loans Consumer Finance of China, formerly a market leader, has seen considerable asset loss in the last three years as it has failed to keep up with the change to online lending. According to Caixin, it has already sold one bundle of NPPLs at a discount of more than 90% off the book value of 27.5 million yuan.

According to the sources, PSBC Consumer Finance of China sold a bundle of NPPLs at a discount of more than 95% of the book value of 31.5 million yuan.

According to Caixin calculations based on platform data, many buyers on the exchange are local AMCs primarily controlled by local governments or state-owned financial groups in China. From the beginning of 2022 to the end of March 2023, they purchased roughly 96% of NPPLs transacted through the exchange by book value.

One of the largest local AMC purchasers has been Zhejiang Zheshang Asset Management Co. Ltd., a subsidiary of the state-owned Zhejiang International Business Group Co. Ltd., which specialises in the mass transfer of nonperforming assets from financial institutions in China.

NPPL disposal is a relatively new section of the bad debt market, which has created challenges for buyers and sellers, particularly when pricing the packages in China.

According to Sun Tao, general manager of Jiangxi Financial Asset Management Co. Ltd. in China, when the pilot programme first began in 2021, the market was irrational, and there were NPPL packages with discounts of 70% or 50% on the book value of the assets. However, when they snapped up these bundles, many AMCs were more concerned with publicity.

However, according to Sun, by the end of 2022, the discount to book value in China will have risen to more than 90%.

So, is this pricing reasonable? He explained that they must ensure that their valuation logic and procedure can withstand scrutiny as a state-owned AMC.

Banks in China are willing to sell assets even at a significant loss since they are under pressure to control or lower their NPL ratios, according to an employee in a commercial bank’s financial leasing department who spoke to Caixin. According to her, the CBIRC performs annual reviews on NPL ratios at each institution and assesses banks based on their performance.

The low pricing also reflects the challenges banks and consumer financing businesses have when attempting to collect defaulted personal loans, usually unsecured, instead of corporate loans. That implies that if borrowers are unable or unwilling to repay their obligations, lenders in China have no collateral to confiscate and few options for recovering their money.

According to Chai Jiaomei, chairman of Tianjin Binhai Zhengxin Asset Management Co. Ltd. in China, which specialises in buying NPLs, the valuation of NPPL packages must take into account factors such as the state of the macroeconomy, the impact of the local economic environment on individual borrowers, the quality of underlying assets, the capacity of a buyer to dispose of bad debts, and their ability to recover the debt through the judicial system.

In addition to price discovery issues, compliance with regulatory regulations for transferring and publishing debtors’ personal information impeded transactions between NPPL sellers and purchasers in China. 

According to an AMC official, some lenders are only willing to pass over loan contracts and would not supply purchasers with vital information on borrowers such as their income, home address, ID card number, and if and how much they have borrowed from other platforms. In China, debt recovery is hampered by a lack of information.

Clear standards for information transfer are required, and banks should not reject reasonable inquiries from buyers for borrowers’ profiles, according to Chai, who added that as the NPPL market expands, information disclosure, contracts, and transfer processes will likely be standardised in China.

Another issue is a lack of digitization. Many banks and consumer loan organisations in China lack advanced information technology systems, making appraisal and debt collection more challenging.

Many local banks don’t even have complete information about their borrowers, and a lot of information is still stored on paper documents, according to Gan Xiaohu, secretary-general of the personal loan committee of the Zhejiang Investment Finance Association (IFA), an industry association whose members include China’s banks and investment firms.

In China, some purchasers cannot establish systems to profile borrowers and conduct data-driven research.

Given the high cost of going it alone in China, both in terms of technology and human resources, the industry is likely to shift towards a more collaborative approach, with service providers emerging that specialise in specific aspects of the market such as pricing, data analysis, profiling, and debt collection, according to Yu Zhou, a personal lending manager at China’s Goho Asset Management Co. Ltd.

Dashang Digital Technology, situated in Hangzhou, is a business whose stockholders include Zhejiang Zheshang AMC. It has created a platform to manage the sale of non-performing assets. It claims to be able to give creditors, debtors, and service providers a variety of options during the disposal process.

According to Hainan Haide’s financial reports, AMCs are already generating a lot of money by purchasing and selling nonperforming assets, and the NPPL market might become a profitable new business sector for China.

Its net income attributable to shareholders increased from 383.4 million yuan in 2021 to 700 million yuan in 2022, up from 127.8 million yuan in 2020. Its revenue increased from 666.5 million yuan in 2021 to 1.1 billion in 2022, up from 311.8 million yuan in 2020.

China’s corporation stated in its 2022 annual report that it has been purchasing NPPL packages for less than 10% of the initial capital on average. It intends to collect 15% of the principal due in the first year, 20% in two years, and 25%-30% in three to five years for China by pursuing debtors through the courts.

This year, the Chinese company’s shares have surged by over 40%, surpassing the benchmark Shanghai Composite Index, which has increased by less than 5%.

With the expansion of the NPPL in China, the disposal market, and Hainan Haide’s adoption of artificial intelligence technology, an analyst with Pacific Securities Co. Ltd. wrote in a report after the company announced its 2022 earnings in April in China.

According to Gan of the Zhejiang IFA, the NPPL market in China would need another three to five years to mature.

The critical issue is that China’s banks release more NPPL packages to lubricate the market and allow the entire ecosystem to thrive, he added. Furthermore, many small and midsize banks and local AMCs are doing this for the first time, so they must upgrade their technological capabilities. At the same time, some lenders in China must clean up and digitise their borrowers’ record keeping to improve the efficiency and valuation of the disposal process in China.

Conclusion.

The China Banking Regulatory Commission has extended a pilot programme allowing big banks to package and sell their non-performing personal loans (NPPLs), including consumer loans, credit card debt, and business loans but not mortgages, to other financial institutions.