Signs of stress
Already, problems associated with WMPs’ lack of transparency and poorly defined credit terms have emerged in various parts of China, only to be swiftly subdued by China’s authorities, ostensibly to avoid investors from panicking. GMO’s Edward Chancellor, in a recent white paper, summed up key developments:
“Salesmen employed by banks have reportedly earned commissions by selling third-party products without their employers’ knowledge. Customers appear to have bought these third-party WMPs believing they came with a bank guarantee. In early December, the Shanghai branch of Huaxia Bank was beset by protesters after a WMP sold at the branch defaulted.
This incident was the first in a number of scandals concerning shadow banking credit. In the same month, customers at a branch of China Construction Bank in the northeastern province of Jilin claim to have been sold a WMP with guaranteed returns but suffered a loss of 30% of their principal. Citic Trust Co, a unit of China’s biggest state-owned investment company, recently missed a bi-annual payment to investors on one of its trust products after a steel company missed interest payments on the underlying loan.”
China takes action
It looks like China’s authorities have taken notice and are determined to do something about the mounting risks associated with WMPs. In a statement released on Wednesday, March 27, China’s banking regulator — the China Banking Regulatory Commission (CBRC) — announced new restrictions on WMPs in an effort to increase transparency and stem the risks associated with these financial products.
The new regulations are intended to limit the types of assets that proceeds from WMPs can be invested in. They also mandate banks to be more transparent with investors about the risks to which they are exposed. While analysts were expecting stricter regulations on WMPs to be enforced this year, some were surprised by the swiftness of the CBRC’s actions.
At first glance, the new regulations appear to be a welcome development, suggesting that China’s authorities are more serious than ever about confronting risks to the country’s financial system. But unfortunately, they can’t reverse the years of shady lending China’s banks have already engaged in. Are the new restrictions simply too little, too late? That remains to be seen.
The article A Major Threat to China’s Banks originally appeared on Fool.com.
Fool contributor Arjun Sreekumar has no position in any stocks mentioned. The Motley Fool recommends American International Group (NYSE:AIG) and Goldman Sachs. The Motley Fool owns shares of American International Group and Bank of America and has the following options: Long Jan 2014 $25 Calls on American International Group.
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