Block Says China Banks’ Bad Loans Spread Beyond Government Debt

Carson Block, the short seller who runs Muddy Waters LLC, said China’s bad-loan problem is more widespread than just local government debt and includes public and private sector borrowing.

Non-performing loan “figures greatly understate the potential scope of the problem of poor-quality loans,” Block said in an e-mail. “We believe that the PRC banking system will be hit hard by the unwind, and that the government will be forced to recapitalize a number of the banks.”

Chinese banks are grappling with rising defaults and slowing profit growth as regulators ease controls over loan pricing and deposits to spur competition. The country’s soured debt, which has risen for six straight quarters, in part prompted Block to bet against the bonds of Standard Chartered Plc, the U.K. bank that earns most of its profit in Asia.

Bad debt in China climbed to 526.5 billion yuan ($86 billion) in the three months through March, marking the longest deterioration streak in at least nine years, according to regulatory data released this month.

China’s largest lenders are state-owned and that makes shorting the country’s banks “somewhat difficult,” Block said in the e-mailed reply to queries.

The government owns stakes in the nation’s biggest banks including China Construction Bank Corp. through the Ministry of Finance as well as Central Huijin Investment Ltd., a unit of sovereign wealth fund China Investment Corp.

Block said May 10 he’s betting against Standard Chartered’s debt because of deteriorating loan quality. The London-based bank’s lack of state support and an emerging-market loan book that’s “highly exposed to significant negative developments in China” were reasons Block shorted the lender, he said in the e-mail.

— With assistance by Allen Wan

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