This is from a report originally written in March 19, 2018. Ant’s business clearly has changed but the analysis may still be useful.

Ant’s Over-leveraged Funding Structure

“Ant Financial has got just enough bullets to cause a small–scale financial crisis.” Economist with a State Owned Bank.

l Growing Market Share. Ant Financial has quickly taken market share from traditional banks, trust companies and other financial firms. Eventually, the regulators may reduce Ant’s consumer lending business to prevent losses by the bigger banks.

l Undercapitalized “Bank.” We estimate that Ant’s outstanding credit stands at 49x Ant Cash Now’s registered capital. This 2% capital adequacy ratio is far below the CBRC 8% requirement for commercial banks.

l Little Oversight. Ant Financial has lending data for Ant Credit Pay as it utilizes a “virtual credit card” and tracks user purchases. However, there is little data on Ant Cash Now’s loans issued directly to users. This raises red flags about potential defaults.

l Main Driver Behind Securitization. In 3Q 17, Alibaba and its finance units accounted for 82% of consumer credit ABS. This is a significant concentration of risk.

Summary

Ant Financial operates through two businesses, Ant Credit Pay, which is a “virtual” credit card customers use to buy goods through Alibaba’s online platforms, and Ant Cash Now, which provides loans in cash issued directly to users who pay in installments with interest. The capital is supplied primarily through securitized loans sold to wealthy investors. We believe there are several significant risks to the business:

l Awkward Scalability. Ant Now’s loans, because they are in cash, are untraceable, so the default rate data used for Ant Credit Pay transactions are not available. This makes the scalability and control of Ant Cash Now’s business much more difficult.

l High Leverage. In order to scale the business, Ant Cash Now has created a high level of leverage through securitized loans. Currently, total outstanding credit, including off-balance sheet items, are estimated at nearly 49 times Ant Cash Now’s registered capital, far above the regulated limit of 2.3x.

Global Source Partners

Andrew Collier | Jul 24, 2020

China has clearly been one of the success stories in handling the coronavirus. The flattening of the curve was a reflection of the nature of the tightly controlled political system. The numbers may not be completely trustworthy but even at multiples the caseload is still much lower than in other countries. As a result, the economy has picked up more quickly than elsewhere in the world.

However, the latest data for economic activity in China shows a continued split between sectors relating to heavy industry and infrastructure and the retail portion of the economy. Power generation and steel production are at high levels while passenger traffic remains low, and other indicators of local activity, such as traffic congestion, are weak.

China may be able to carry the economy forward through the industrial sector alone. But there are several red flags:

1. Fiscal stimulus aimed at infrastructure is generating less efficient growth.
2. Debt levels continue to climb.
3. Small business – a driver of growth and employment – continues to struggle for access to capital.
4. For the oil market, inadequate storage infrastructure may make further purchases for the strategic reserve difficult.

For these reasons, China may have a sluggish recovery, due as much to structural economic problems as the virus itself. This will be reflected in oil demand.

Global Source Partners

China’s investment strategy – back to the state sector

The key to China’s economic rebound is the nature of the country’s stimulus. After reducing shadow banking, China in the past few years has emphasized private credit through the bond market and private borrowing such as mortgage loans.

This includes corporate bonds, along with bonds issued by the quasi-private/public local government companies (LGFVs). However, most important have been programs such as an increase in local government infrastructure bonds.

The target for these bonds was raised from RMB2.15T in 2019 to RMB4.75T in 2020. In addition, the fiscal deficit is increasing from 4.9% in 2019 to 11.6% in 2020. And that does not include off-balance sheet financing. Local governments are facing an RMB 11T fiscal deficit, partly due to tax cuts to help small businesses. This is another anchor weighing on future growth.

The corporate bond market has been particularly strong.

Global Source Partners

What can China lose in Hong Kong?

Andrew Collier | September 2019

Executive Summary

How important is Hong Kong to China? What will happen — if and when the protests end — to the “special” relationship in the Jnancial sector between Hong Kong and the mainland? The argument is often made that China cannot afford to disrupt Hong Kong due to the important role it plays in providing capital for the mainland. We disagree with this due to the small size of capital Kows compared with domestic China and the new channels of US dollar Jnancing.

Possible Protest Outcomes

There has been much debate internationally and in Hong Kong about how the current state of protests end. The options include:

• Gradual dying out of protests, particularly as the city’s 324,000 students go back to University.
• A series of meetings leading to some compromise on both sides.
• Rise in protests and police confrontation as the Carrie Lam administration refuses to offer any compromise solution, leading to a breakdown in law and order in Hong Kong.
• Direct intervention by the People’s Liberation Army. Most people dismiss option four. Military intervention is too threatening to China’s role vis a vis Taiwan, and the West, to allow for a repeat of a “Tiananmen” style crackdown, particularly as the trade war negotiations rage on. In addition, it is widely accepted that it would be difJcult for the PLA to control a city under siege, given that 75% of the land is unoccupied and much of it is rural. In fact, only 25% of Hong Kong’s land is zoned for use, and only 3.8% is residential. If a military conclusion is unlikely, that leaves either a quiet dissolution of the protests, a negotiated compromise, or a breakdown in law and order. Currently, there are a number of attempts by independent groups in Hong Kong (academics, lawyers), to act as a “go-between” with the government and the protestors. It is not clear how much they can do given the intransigence of the Carrie Lam administration. One question that may affect Beijing’s decision whether to intervene more directly is how valuable Hong Kong is to China. Leaving aside Hong Kong’s security and symbolic positions, is Hong Kong still an important Jnancial center for mainland China?

There are four key industries in Hong Kong: Jnancial services (18.9% of GDP); tourism (4.5%); trading and logistics (21.5%); and professional services (12.5%). A downturn in any of these would hurt the mainland but clearly Jnancial services outweighs the others due to its size and importance to China.

Conclusion: Why Care about Hong Kong?

Hong Kong has more symbolic than Jnancial value to China. Security issues in Taiwan, along with concerns in Europe and the U.S., are more important factors to China than capital raising. This is mainly due to China’s increasing Jnancial integration globally.

In addition, there have been longstanding concerns in Beijing that corrupt money has been held offshore in Hong Kong. Beijing would be happy to Jnd a way to increase its control over the city to Kush them out.

To that end, China will inevitably seek to increase its control via the local police force, its own people Jltered throughout various parts of the government, along with a “third force” through its presence in local media and other organizations.

In a sense, the damage has been done by the protests and the reaction by the Hong Kong government. Externally, there will be declining faith in the independence of Hong Kong. This is likely to reduce the independence of the Jnancial institutions, law Jrms and accounting Jrms, that help to foster the viability of the Jnancial system. The question now, is how quickly Singapore, Frankfurt, and other cities can replace Hong Kong.

• (For Full Report, Contact Global Source Partners

15/08/2019 Renminbi retreat set to revive capital outflows pressure | Financial Times

Chinese capital controls (See my comments…)

Renminbi retreat set to revive capital outflows pressure
Breach of key threshold sees currency and its regulator face challenges on many fronts

Don Weinland in Beijing 9 HOURS AGO

The renminbi’s fall through the closely watched and previously well-defended threshold of Rmb7 to the US dollar last week has added to pressure on the Chinese currency on multiple fronts — posing a challenge for the foreign exchange watchdog, which is keen to keep capital flight in check.

Sudden declines in the value of China’s currency often prompt rich Chinese people to move money into US dollars or assets such as foreign real estate to avoid further wealth depreciation.

In addition, as the currency loses value against the dollar, Chinese companies with large US dollar debts are forced to exchange greater amounts of renminbi to make payments on offshore bonds. Strategists also fear the country will attract less foreign investment, a crucial source of capital inflows that help underpin the currency.

“Capital outflow pressure didn’t start on Monday [last week] but we expect it to see a strong increase,” said Alicia García Herrero, chief economist for Natixis in Asia Pacific. “This is going to cause people to recalculate investing in China this year.”

Capital outflows jumped to $85bn in the second quarter of the year from about $21bn in the first quarter. However, there was only a small outflow in July from the country’s foreign exchange reserves, which remained relatively stable at $3.1tn.

China has waged war on capital flight ever since the central bank’s shock 1.9 per cent devaluation of the renminbi in August 2015. In the year following that move, analysts estimated that more than $1tn flowed out of the country’s capital account, sparking concerns that its foreign reserves — a war chest for preventing a full-blown currency crisis — were running low. By January 2017, foreign

reserves were below $3tn for the first time in five years.

Since then the foreign exchange regulator has cracked down on backdoor channels for moving cash offshore, namely by stopping companies from making speculative real-estate and entertainment investments overseas — a campaign that has been largely effective in stemming serious outflows.

“The days of easy tricks to move capital offshore from China are gone due to tighter restrictions by the State Administration of Foreign Exchange,” said Andrew Collier, managing director at Orient Capital Research in Hong Kong. “However, there are limits, as large adjustments could trigger massive domestic offshore pressure due to concerns about a substantial weakening of the currency.”

One way capital is continuing to flow out of the country is through companies in second-tier cities, according to research by Mr Collier for GlobalSource Partners.

Such companies, which face less regulatory scrutiny than those in Beijing or Shanghai, have quotas for overseas direct investment that they offer to wealthy individuals for a fee, making use of a

loophole in a legal grey area. On paper, investments are made by the companies but much of the cash backing deals done via those quotas comes from people looking to move their money into overseas assets, the research suggests.

Still, some analysts say the heaviest pressure on China’s capital account will come not from investors attempting to escape a depreciating currency but from companies making payments on hundreds of billions of dollars in offshore debt.

Chinese companies have gone on a US dollar debt-raising binge in recent years. This year alone they have added more than $600bn to a debt pile that now totals about $3.5tn, according to Kevin Lai, chief economist for Asia ex-Japan at Daiwa Capital Markets.

Most Chinese companies will repay that debt by exchanging renminbi for dollars, and as the currency weakens the amount of renminbi they must exchange to make payments on those bonds increases.

“The need to move money offshore has existed for a long time but now corporates are under much more pressure to get out,” said Mr Lai. “With the [renminbi] breaking 7 [to the dollar] this is going to shake up everybody.”

China’s currency was trading at 7.04 per dollar on Wednesday, having weakened by about 5.3 per cent since February.

15/08/2019 Renminbi retreat set to revive capital outflows pressure | Financial Times

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By Alexandra Stevenson

• Aug. 4, 201

BEIJING — China’s currency weakened past the psychologically important point of 7 to the American dollar for the first time in more than a decade, a move that reflects the growing severity of the trade war with the United States and that could indicate Beijing’s growing desire to find ways to retaliate against President Trump.

The renminbi traded in mainland China on Monday morning at roughly 7.02 to the dollar, compared with about 6.88 late on Friday. A higher number represents a weaker currency. The last time China’s currency was weaker than 7 to the dollar was in 2008, as the financial crisis mounted.

Monday’s move by itself will not change China’s trade relations with the United States. But the shift past 7 renminbi to the dollar could represent a new stage in the economic conflict between the two countries. American officials, including Mr. Trump, have long criticized Beijing for manipulating its currency to help its exporters. Should the currency continue to weaken, the Trump administration will most likely see that as a dramatic retaliation to the White House’s mounting tariffs.

“This can too easily be taken as a trade war devalue to take the pressure off,” said Fraser Howie, an author and former banker who writes about China’s financial system. “To that point, it is the quiet pushback from Beijing.”

The move shook investors worried that Monday’s currency move could presage a new front in the trade war. Stock markets in Tokyo and Hong Kong, a city where shares were also hit by work stoppages on Monday, tumbled more than 2 percent. Futures markets indicated Wall Street would probably open lower, too.

The People’s Bank of China, the country’s central bank, said on Monday that the renminbi’s move was in response to the “unilateralism and trade protectionism measures and the imposition of increased tariffs on China,” but emphasized that the Chinese currency remained stable.

“The People’s Bank of China has the experience, confidence and ability to keep the RMB exchange rate basically stable at a reasonable and balanced level,” it said in a statement.

A lot will depend on what happens next.

The Chinese government tightly controls the value of the renminbi. Its value fluctuates within a tight range anchored to a midpoint set daily by the People’s Bank of China. On Monday, the central bank set that midpoint at 6.9225 renminbi to the dollar.

Should the central bank continue to move the midpoint weaker, that would give room for the renminbi to weaken even more. While the renminbi at 7 to the dollar does not drastically alter the landscape compared with when it was at 6.9 to the dollar, the environment would change considerably if the renminbi weakened to 7.5 or 8 to the dollar.

“If the currency does stay below 7 for another day, that is a sign that Beijing has ‘weaponized’ the renminbi as a tool to improve exports during the trade war,” said Andrew Collier, managing director of Hong Kong-based Orient Capital Research.

A weaker currency in effect helps Chinese factories defray the cost of rising tariffs. Should the renminbi weaken further, the Trump administration could respond with higher tariff rates to keep pressure on Beijing to reach a trade deal.

But Beijing runs some risks if it continues to weaken the currency.

A weaker currency could prompt wealthy Chinese to shift their money out of the country, so nobody wants to hold investments in a currency that is losing value. It could dampen the spending power of Chinese consumers at a time when Beijing needs them to keep buying to bolster economic growth. It would put pressure on domestic and foreign companies in China that have debt denominated in American dollars. It would also affect Chinese companies like airlines that buy oil in dollars.

New York Times

(See my quote below)

July 15, 2019

A shopping mall in Beijing. Retail sales and spending on infrastructure offered bright spots in data that otherwise showed slumping growth.CreditLam Yik Fei for The New York Times

A shopping mall in Beijing. Retail sales and spending on infrastructure offered bright spots in data that otherwise showed slumping growth.CreditCreditLam Yik Fei for The New York Times

By Keith Bradsher

• July 14, 2019

BEIJING — China’s growth fell to its slowest pace in nearly three decades, officials said on Monday, as a resurgence of trade tensions with the United States and lingering financial problems take an increasing toll on one of the world’s most vital economic engines.

Chinese officials said the economy grew 6.2 percent between April and June compared with a year earlier. While such economic growth would be the envy of most of the world, it represented the slowest pace in China since the beginning of modern quarterly record-keeping in 1992. That marks a significant slowdown from earlier this year, when growth came in at 6.4 percent, matching a 27-year low reached during the global financial crisis a decade ago.

Premier Li Keqiang set a target in March for economic growth to be between 6 and 6.5 percent this year. The figures on Monday fell within that range.

But much of the growth in the quarter may have taken place in April and early May, when public confidence was higher because of a tax cut in March and heavy infrastructure spending as spring began. Trade talks broke down on May 10 and President Trump raised tariffs sharply on Chinese goods, a step that damaged consumer confidence within China. Growth early in the quarter also would have taken place before the contentious government takeover of a bank in late May hurt financial confidence.

Chinese officials on Monday acknowledged that conditions are becoming increasingly difficult.

“Economic conditions are still severe both at home and abroad, the global economic growth is slowing down, the external instabilities and uncertainties are increasing, the unbalanced and inadequate development at home is still acute, and the economy is under new downward pressure,” said Mao Shengyong, a spokesman for China’s National Bureau of Statistics, in a news conference.

Mr. Mao downplayed the effects of trade, saying China’s economy increasingly relies on consumption.

But President Trump, in a Twitter message on Monday about the economic data, said that tariffs on Chinese goods “are having a major effect on companies wanting to leave China for non-tariffed countries.”

“Thousands of companies are leaving,” he said. “This is why China wants to make a deal with the U.S.”

Monthly economic data, particularly for imports, suggests that the second quarter started strong but then slowed. “There was certainly a surge in activity through April,” said George Magnus, a longtime specialist in the Chinese economy who is now at Oxford University. “Something happened in May.”

A used car dealership in Beijing. Auto sales have slumped badly.

A used car dealership in Beijing. Auto sales have slumped badly.CreditLam Yik Fei for The New York Times

The number may also understate the extent of the slowdown. Economists widely doubt the veracity of the overall Chinese growth figure, which shows far more stability than comparable numbers from the United States and elsewhere.

A few sectors of the Chinese economy are doing fairly well. The strongest sector appears to be the construction of infrastructure, much of it paid for with money borrowed by local, provincial and national government agencies. Retail sales ticked up as well.

The biggest drag on the Chinese economy lies in trade, which grew powerfully over the past three decades but has stopped rising in recent months. Exports dipped 1.3 percent in June from a year earlier, the government said on Friday, and imports fell 7.3 percent.

While the trade war has hurt American purchases from China, economic weakness in Europe and many Asian countries has caused overseas demand to weaken far more broadly than just in the United States. Last week, Singapore unexpectedly announced that its trade-dependent economy had shrunk at an annualized rate of 3.4 percent in the second quarter.

“The economy is definitely in a broad decelerating trend because the global economy is slowing down, so exports are slowing down,” said Larry Hu, the chief China economist at Macquarie Capital, the investment banking unit of a big Australian multinational.

China’s troubles have their roots not just in trade but also in a debt-laden financial system that has been shaken by a series of large shocks in the last few weeks.

On May 24, Chinese financial regulators took over Baoshang Bank in Inner Mongolia, a small institution that is part of a financial empire previously controlled by Xiao Jianhua, a financier who disappeared into the custody of government investigators two years ago. Regulators tried to force a few of its largest creditors to accept losses rather than bailing them out as a way to teach financiers to be more careful about where they put their institutions’ money.

Problems in some of the shadowy corners of China’s financial system have also frightened investors. China’s shadow banking system plays an important role in funding property projects and other private business ventures. But managers of some riskier investment products have had a hard time making high-interest payments to investors in recent weeks. In some cases they have also had trouble even repaying principal.

These incidents have set off a broader shift in recent weeks away from riskier investments. Institutions and households alike have been putting money into larger, more stable financial institutions run by the central government.

Big state-controlled banks have steered the bulk of their lending to state-owned enterprises. That long-running trend has hurt the real estate market and the broader private sector. 

The Chinese economy has come to rely largely on government investment in infrastructure projects. 

Regulators have repeatedly urged the big banks to lend more to small businesses and the private sector, and Mr. Li, the premier, did so again on July 2. But these exhortations have had limited effect so far. Bank lending officers worry that they might be blamed, or even investigated for corruption, if they extend large loans to struggling private businesses that then default as the economy weakens.

Andrew Collier, the managing director and founder of Orient Capital Research, a Hong Kong investment and economic research firm, said that troubles at Baoshang and in the shadow banking system had rattled financial markets but seemed to have been contained, at least so far.

“The Chinese central bank is watching carefully, and for now will use quiet means to avoid any shaky financial shenanigans,” he said.

Economists are watching for other potential warning signs, like inflation. Price increases have been tame, according to official statistics. But many in China complain that the actual cost of living is rising fast, particularly for food but also for rent and other daily expenses.

Industrial production has weakened this year, as has private sector investment. Housing sales have slowed, as buyers look harder for bargains but sellers have been reluctant to cut prices. Car factories have sharply reduced output in response to weak sales, although there were signs last month that consumer interest in buying luxury automobiles may finally be stabilizing.

The long-running trade war has prompted many multinational companies to look at ways to shift supply chains elsewhere. But many continue to invest in China to supply China’s own market as well as others, especially in Asia.

“The Chinese government will continue to work hard to create a more stable, fair, transparent and predictable investment environment,” Gao Feng, spokesman for the Ministry of Commerce, said at a news briefing on Thursday.

He later added that “China has not experienced large-scale withdrawals of foreign capital.”

For now, though, the economy keeps running to a considerable extent because the Chinese government is pumping huge sums of money into infrastructure. It is building high-speed rail lines, immense highway bridges, ports and other facilities to connect ever smaller and less affluent cities and towns to the rest of the country.

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That infrastructure is making it easier to do business and move around even in some of the poorest and most remote areas of China. But bankers and economists worry about whether some of these investments will ever earn enough of a return to cover their cost.

“There’s a very weak commercial basis,” Mr. Magnus said, “for this credit-fueled infrastructure spending.”

Keith Bradsher has been covering the Chinese economy for The New York Times since 2002, as Hong Kong bureau chief and now as Shanghai bureau chief. He previously served as Detroit bureau chief and as a Washington correspondent covering trade and then monetary policy. Follow him on Twitter: @KeithBradsher.