China's Best Bank Called 'Mirage' of Shadow Lending

Case of Bank of Tangshan highlights opaque financial risks across the nation
Bloomberg News

The best-performing bank in China is in a struggling city in the northeast where weeds sprout alongside the concrete skeletons of high rises in an industrial zone that mostly looks like a ghost town.

Steel plants have laid off tens of thousands of workers. Cranes stand idle on construction sites. Wipe away a spiderweb on a dirty glass door at an empty complex with smashed windows and there’s a notice from the local government demanding rent unpaid since November 2014.

Yet the Bank of Tangshan’s financial statements hardly reflect these realities. Instead, this small lender reports the fastest growth of 156 Chinese financial institutions and the lowest level of bad loans, a mere 0.06 percent. Its profit jumped 436 percent in two years and assets soared almost 400 percent since the start of 2014 to 177.9 billion yuan ($26.7 billion).

It’s largely driven by shadow lending. The bank is the most prominent example of the off-loan-book wizardry that’s turbo-charging some of China’s small and mid-sized banks, creating opaque risks that could lead to failures, bailouts or liquidity shocks that jolt the nation and global markets in the years ahead.

“It’s a mirage built upon risks,” said He Xuanlai, of Commerzbank AG. The Singapore-based analyst cited smaller banks’ use of so-called “investment receivables” — including asset management plans and wealth management products — to boost lending without facing requirements to bolster capital and loan-loss provisions. “It’s hard to assess the banks’ true asset quality.”

This form of shadow lending is so widespread that a survey of 26 banks by Moody’s Investors Service found that they’d quadrupled use of the products since 2012, with small and mid-sized lenders contributing an outsize share.

The International Monetary Fund estimates that Chinese banks held $2.3 trillion of shadow credit products at the end of last year, adding to a build-up that could pose “substantial risks” to the financial system. Some little-known Chinese banks have already been quietly bailed out, UBS Group AG said

In a speech in February carried in the bank’s annual report, Bank of Tangshan President Yao Xianghua, 44, said the lender had “blazed a trail of transformation and upgrading” in 2015. “None of the difficulties facing our peers is bothering us. The problem we have is how to expand our territory and be more innovative in our products.”

Yao isn’t available for an interview because the bank is undergoing a “strategic shift,” and he’s busy traveling, according to a press officer who asked not to be identified. The unlisted, local-government controlled bank also didn’t answer questions sent by fax about its finances, shadow-banking products or the challenges posed by the local economy. Calls to the Tangshan city government went unanswered.

QuickTake Q&A: China's Wealth Management Products

On the face of it, Bank of Tangshan looks like “the best bank in China,” UBS analyst Jason Bedford said in a June report covering 156 Chinese financial institutions. Yet the lender “exemplifies better than any other institution” the distortions from shadow lending, with traditional loans accounting for less than a quarter of assets and a “marginal proportion” of credit risk, Bedford said.

Located in Hebei, one of China’s five worst-performing provincial economies, the Bank of Tangshan has been increasingly concentrating lending in Caofeidian, the site of an almost deserted industrial zone. The zone sits on more than 200 square kilometers (77 square miles) of land reclaimed from the sea, about an hour’s drive south of the center of Tangshan city and sharing the coast of the Bohai Sea with Tianjin.

As of the end of last year, 59 percent of the bank’s on- and off-book lending was there, according to its annual report. Four of the firm’s 10 largest shareholders are government-backed companies in Caofeidian. Caofeidian Holdings Co., a shareholder that’s an investment arm of the Tangshan government, declined to comment.


Lauded by former Premier Wen Jiabao as a “dazzling pearl” in the making, the would-be showpiece seemed to fall from favor under the current Communist Party leadership, disappearing from the five-year plans that are China’s economic blueprints. The last time it appeared was in the one starting in 2006.

These days, the development is known for its ghostly high rises and office blocks, wide streets with few cars or people, and a deep-water port that duplicates the facilities of nearby Tianjin.

Bank of Tangshan’s “investment receivables” soared 1,600 percent over two years to 66 billion yuan at the end of 2015, driven by the use of wealth management products, asset management plans and trust beneficiary rights, according to the bank’s annual report. Most of that exposure wasn’t backed by collateral, the report showed. 


Bad-Debt Provisions

If 1.67 percent of the lender’s on- and off-book lending went bad — in line with the official national rate for nonperforming loans at the end of last year — that would more than wipe out the lender's impaired-asset provisions, based on its 2015 financial statements.

The bank, operating since 1998 and with 1,200 employees and 55 outlets, may benefit from Tangshan’s ambitions to upgrade from old industries to new. Plans call for making high-speed trains and robots, building solar, wind and nuclear power equipment, and integrating economically with Beijing, Tianjin and its surrounding province of Hebei. Yet because shadow investments are opaque, the true nature of their performance or the impact on the bank itself or the entities it has invested in should they turn bad can’t be assessed.

Before the push into shadow lending, Bank of Tangshan’s 2013 net profit increased only 8 percent, compared with 82 percent last year. 


Machinery sits idle in an abandoned steel plant in Tangshan.
Machinery sits idle in an abandoned steel plant in Tangshan.
Photographer: Kevin Frayer/Getty Images

Not Rosy

The local economic data don’t paint a rosy picture. Tangshan is known as China’s steel capital, pumping out more than a 10th of national steel output, and has helped propel Hebei province to the unwanted ranking of No. 1 for its combined exposure to the overcapacity-burdened industries of steel, cement and coking coal, according to statistics bureau data for 2014, cited by BMI Research, part of Fitch Group.

“This is the worst year,” said Liu Ruiming, 57, who has spent two decades trucking steel and iron powder from the city, as he sat in a restaurant near a still-operational Tangshan Guofeng Iron & Steel Co. complex, lunching on fried pork, rice and beer. “Owning a truck means losing money now.”

Tangshan’s industrial output growth slumped from 16 percent in 2010 to 4 percent last year, and its real estate development investment fell 17 percent in the first half of 2016.

“Once steel is bad, the economy gets sick,” said Bi Rongling, 59, who runs a 24-hour stand with her husband across from the Guofeng mill, selling food, drink and Seven Wolves brand cigarettes to the remaining steel workers at the factory.


Caofeidian’s economic output last year was less than a third of a target set by the local government. At the industrial zone’s “Blue Bay” 5,000-home apartment complex, properties were for sale this month at about 3,700 yuan a square meter — a 10th of the average price in Beijing.

Bank of Tangshan has acknowledged challenges. In 2014 and 2015, it said it was withdrawing credit from industries known for overcapacity. Instead it’s largely focusing on infrastructure, an area where lending to local government financing vehicles has been low-risk for banks.

One of the lender’s bets may be that state entities won’t renege on their debt, a premise that’s increasingly being tested in China after defaults by the likes of government-owned Baoding Tianwei Group Co.

Bank of Tangshan has bolstered its capital-adequacy ratio to 11.25 percent — less than the average for the nation’s more than 130 city commercial banks — and started diversifying to nearby Tianjin and Beijing. The lender remains tiny compared with industry giants: Its assets amount to less than 1 percent of those of Industrial & Commercial Bank of China Ltd. 

A branch of the Bank of Tangshan in the Caofeidian Industrial Park.

A branch of the Bank of Tangshan in the Caofeidian industrial zone.

Photographer: Qilai Shen/Bloomberg

Remaining Bullish

While many lenders — especially those steering clear of large-scale shadow lending — are struggling to achieve even single-digit profit growth, and Chinese banks’ bad debts are at an 11-year high, Bank of Tangshan’s President Yao was bullish in his February speech, saying the bank had plenty of scope to grow.

“Our team in Tianjin made 4.5 billion yuan of loans” last year, he said. "Now we are building a team in Beijing. If they can tap the Beijing market, it’s not difficult for us to be a 1-trillion-yuan bank given the huge market in Beijing, Tianjin and Hebei.”

The pace of the lender’s growth remains furious, with its assets and liabilities rising by more than 40 percent in the first five months of this year from the end of 2015, according to one of the bank’s newspaper advertisements.

Back in Caofeidian, some touches give a sense of the showpiece that could have been: solar and wind-powered lamps in the “finance street” area, boardwalks lining canal banks — it’s just that there are very few people.

“I can’t even cover the rent,” said Zhu Erjun, 50, whose shop selling cigarettes is near deserted building sites. “All the construction workers have gone.”

On a waterfront avenue, a three-story office building appears to be unoccupied, surrounded by weeds and muddy land. Nearby, the bare concrete skeletons of twin towers come with advertising boards promising a 230-room hotel, a spa center, a water amusement park and restaurants.

Alongside vacant land, bright posters on a wall show President Xi Jinping and the slogan: “Chinese dream, my dream.” 

Posters of President Xi Jinping.
Posters of President Xi Jinping.
Photographer: Qilai Shen/Bloomberg