Preparing for a Turn in the Chinese Credit Cycle

Transcription

1 Preparing for a Turn in the Chinese Credit Cycle Glenn Levine, Associate Director David Hamilton, Managing Director November 2018

2 Speakers Glenn Levine Corporate Stress Testing Model Lead, Credit Risk Analytics Group New York David Hamilton, PhD Managing Director Credit Risk Analytics, Asia-Pacific Singapore Preparing for a Turn in the Chinese Credit Cycle 2

3 Agenda 1. Recent performance and outlook for the Chinese economy 2. Using an equity-based model to analyze Chinese corporate credit risk 3. Early warning and monitoring strategies for corporate credit exposures 4. Stress testing your corporate loan book 5. Q&A Preparing for a Turn in the Chinese Credit Cycle 3

4 1 Recent performance and outlook for the Chinese economy

5 China s Economy Has Been Growing Strongly Chinese GDP growth, % year-over-year 8 7 Forecast Q1 2015Q1 2016Q1 2017Q1 2018Q1 2019Q1 2020Q1 Source: Moody s Analytics Preparing for a Turn in the Chinese Credit Cycle 5

6 But This is Partly Due to Higher Leverage Chinese lending to non-financial corporates, % of GDP Q1 2008Q1 2010Q1 2012Q1 2014Q1 2016Q1 2018Q1 Source: Bank of International Settlements Preparing for a Turn in the Chinese Credit Cycle 6

7 Is China s High Corporate Leverage a Problem?» China s corporate debt ratio (160% of GDP) looks dangerous compared to the US (74%), Japan (99% currently; 150% in 1999), and its own recent history» But: Most debt is in RMB (which removes currency risk) The government has considerable control over lending and interest rates Canada, China, and Hong Kong SAR stand out, with both the credit-to-gdp gap and the DSR (debt service ratio) flashing red, Bank of International Settlements, March 2018 Quarterly Review Preparing for a Turn in the Chinese Credit Cycle 7

8 2 Using an equity-based model to analyze Chinese corporate credit risk

9 The EDF Model Can Signal Rising Risk Well Ahead of Eventual Default Fushun Special Steel, Expected Default Frequency (%) Bankruptcy Preparing for a Turn in the Chinese Credit Cycle 9

10 Overview of Moody s Analytics EDF model DD = distance-to-default A = market value of assets X = default point σ A = asset volatility Preparing for a Turn in the Chinese Credit Cycle 10

11 Overview of Moody s Analytics EDF model DD = distance-to-default A = market value of assets X = default point σ A = asset volatility Preparing for a Turn in the Chinese Credit Cycle 11

12 Overview of Moody s Analytics EDF model DD = distance-to-default A = market value of assets X = default point σ A = asset volatility Preparing for a Turn in the Chinese Credit Cycle 12

13 How Well Does the EDF Perform in China? Accuracy Ratio of the EDF model in China vs other regions, Preparing for a Turn in the Chinese Credit Cycle 13

14 Aggregate Credit Trends in China Median EDF for Chinese and Global corporates Preparing for a Turn in the Chinese Credit Cycle 14

15 Drilling Down to China s Riskiest Industries Median EDF of China s 3 riskiest corporate industries vs overall median Preparing for a Turn in the Chinese Credit Cycle 15

16 3 Early warning and monitoring strategies for corporate credit exposures

17 Annual Default Rate GDP YoY % Change (Inverted) Defaults Rise When Economic Growth Slows Year-Over-Year Change in US GDP vs. US Corporate Default Rate, Annual Default Rate GDP YoY % Change Preparing for a Turn in the Chinese Credit Cycle 17

18 Can You Spot the Defaulters? Effective Early Warning Requires Us to Look at Things Differently Clearly Good 250% 200% 150% ROA % Change % 50% 0% -40% -30% -20% -10% 0% 10% 20% 30% 40% 50% Leverage % Change % -100% Clearly Bad Preparing for a Turn in the Chinese Credit Cycle 18

19 EDF % In A Sector-Wide Downturn, How Can We Identify Firms Most At Risk? Preparing for a Turn in the Chinese Credit Cycle 19

20 YUNNAN METROPOLITAN COFCO PROPERTY GROUP TIANJIN GUANGYU RONGAN PROPERTY YANGO GROUP CO LTD CHONGQING DIMA HUAFA INDUSTRIAL CO., HUAYUAN PROPERTY BEIJING CAPITAL XINJIANG BEIXIN ROAD SHANDONG HI-SPEED CHINA NUCLEAR EVERBRIGHT JIABAO CO LTD HAINAN HAIDE INDUSTRY NORTHCOM GROUP CO LTD FINANCIAL STREET CHINA BAOAN GROUP JINKE PROPERTY GROUP POTEN ENVIRONMENT SHENZHEN HEUNGKONG POWER CONSTRUCTION SHENZHEN MINKAVE SHANGHAI SHIMAO CO LTD CHINA CALXON GROUP BEIJING VANTONE REAL SHUNFA HENGYE SHENZHEN PROPERTIES & DBG TECHNOLOGY CO LTD CHENGDU FUSEN NOBLE- CRED HOLDING COMPANY EDF % Which Firms Stand Out As Most Risky? Firm-Level EDFs for China Construction Group (selected companies) Preparing for a Turn in the Chinese Credit Cycle 20

21 When Should I Get Worried?» Which firms in a portfolio should be considered relatively more risky, and merit deeper investigation?» Moody s Analytics research has identified several strategies for monitoring early warning signals: 1. EDF level versus an industry threshold EDF trigger level 2. Relative EDF level vs. industry group Under- / out-performance 3. EDF level change Momentum 4. Relative EDF change vs. peer group Under- / out-performance 5. Slope of EDF term structure Expectation of risk Preparing for a Turn in the Chinese Credit Cycle 21

22 Setting Sector-Level Early Warning Trigger Levels EDF Early Warning Trigger Levels Balance True Pos/Neg Signals vs. False Pos/Neg Signals Optimal EDF Warning Level for All Firms Globally, t * Median 25 th % 75 th % 3.04% 0.70% 0.17% 3.00% Optimal EDF Warning Level for Selected Industry Sectors, Sector Banks Consumer Products High Tech Transportation t * (Pctile) 0.281% (75.5%) 4.406% (79.0%) % (95.5%) 4.344% (83.9%) Preparing for a Turn in the Chinese Credit Cycle 22

23 Monitor EDF vs Industry Trigger Levels to Identify Potential Credit Events Fushun Special Steel s EDF Triggered a Warning 3 Years Prior to Default Early Warning Triggered Bankruptcy Historically, 92% of corporate defaulters breached their trigger level during the 12 months prior to default Preparing for a Turn in the Chinese Credit Cycle 23

24 EDF-Based Early Warning Signals Also Work for Private Firms Jiangsu Qiaoli Textile Products Co. CCA-EDF vs. Industry Trigger Level Jiangsu Qiaoli bankruptcy Jiangsu Qiaoli s EDF jumps past early warning trigger after reporting disappointing financials Borrows 1-year loan of 140 MM RMB Early warning level for the China Textiles sector Preparing for a Turn in the Chinese Credit Cycle 24

25 YUNNAN METROPOLITAN COFCO PROPERTY GROUP TIANJIN GUANGYU RONGAN PROPERTY YANGO GROUP CO LTD CHONGQING DIMA HUAFA INDUSTRIAL CO., HUAYUAN PROPERTY BEIJING CAPITAL XINJIANG BEIXIN ROAD SHANDONG HI-SPEED CHINA NUCLEAR EVERBRIGHT JIABAO CO LTD HAINAN HAIDE INDUSTRY NORTHCOM GROUP CO LTD FINANCIAL STREET CHINA BAOAN GROUP JINKE PROPERTY GROUP POTEN ENVIRONMENT SHENZHEN HEUNGKONG POWER CONSTRUCTION SHENZHEN MINKAVE SHANGHAI SHIMAO CO LTD CHINA CALXON GROUP BEIJING VANTONE REAL SHUNFA HENGYE SHENZHEN PROPERTIES & DBG TECHNOLOGY CO LTD CHENGDU FUSEN NOBLE- CRED HOLDING COMPANY EDF % Which Firms Stand Out As Most Risky? Firm-Level EDFs for China Construction Group (selected companies) Sector-Specific EDF Trigger Level 0 Preparing for a Turn in the Chinese Credit Cycle 25

26 Monitor EDF Against Industry Peer Groups to Identify Firm-Level Credit Deterioration Fushun Special Steel s EDF Was High 2 Years Prior to Default Preparing for a Turn in the Chinese Credit Cycle 26

27 Early Warning of Credit Risk is Also Critical for Managing ECL Under IFRS 9 Hidili Industry International Development (China) 1-Yr EDF Stage 1 Stage 2 Stage 3 Data source: Moody s Analytics Preparing for a Turn in the Chinese Credit Cycle 27

28 The Business Case for a Strong Monitoring and Early Warning System Onboarding Credit Assessment Monitoring Action» Prequalification assessments» Inputs into internal risk ratings» Early warning of credit deterioration» Timely and actionable information» Loan loss provisioning» Challenger model» Benchmark» Peer comparison of relative risk» A more effective watch list Preparing for a Turn in the Chinese Credit Cycle 28

29 4 Stress testing your corporate loan book

30 What Could Cause the Credit Cycle to Turn? What is your biggest economic concern at the moment? Results of Moody s Analytics Singapore and Kuala Lumpur conference surveys, November 20/21, 2018 Preparing for a Turn in the Chinese Credit Cycle 30

31 China s Economy Under Alternative Scenarios Chinese GDP growth %y/y under five economic scenarios 10 Baseline s1 s2 s3 s Preparing for a Turn in the Chinese Credit Cycle 31

32 Chinese Credit Risk Under Alternative Scenarios Median Chinese EDF under five economic scenarios Baseline S1 S2 S3 S4 Preparing for a Turn in the Chinese Credit Cycle 32

33 High Risk Firms are Vulnerable to Recession Stressed EDF under different economic scenarios Tencent Holdings Ltd Evergrande Group Preparing for a Turn in the Chinese Credit Cycle 33

34 High Risk Firms are Vulnerable to Recession Stressed EDF under different economic scenarios Tencent Holdings Ltd Evergrande Group Preparing for a Turn in the Chinese Credit Cycle 34

35 Preparing for a Turn in the Chinese Credit Cycle 35