Bass: China bank crisis five times worse than sub-prime

A Chinese credit crisis would see the country's banks run up losses 400% larger than those of US banks during the sub-prime mortgage crisis, warns hedge fund manager Kyle Bass, who successfully bet against mortgages during the sub-prime crisis. Bass points out that China's banking system has grown from under $3tn to $34tn, equivalent to around 340% of Chinese GDP, over the past decade, adding no credit system in history has ever attempted this rate of growth. According to Bass, Chinese banks have used wealth management products to accelerate growth, and get around restrictions on lending; they have been allowed to lend 75% of their deposits and offered wealth management products to bump up growth and hide loan losses away from the eyes of regulators, which he says creates "a ticking time bomb" in the Chinese banking system. With banking system losses accelerating, Bass expects that "China will likely have to print in excess of $10tn worth of yuan to recapitalise its banking system". 

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A Chinese credit crisis would see the country's banks rack up losses 400 percent larger than the hit U.S. banks took during the subprime mortgage crisis, storied hedge fund manager Kyle Bass has warned in a letter to investors. "Similar to the U.S. banking system in its approach to the Global Financial Crisis (GFC), China's banking system has increasingly pursued excessive leverage, regulatory arbitrage, and irresponsible risk taking," Bass, the founder of Dallas-based Hayman Capital, wrote in the letter dated Wednesday. related investing news Ray Dalio says Treasurys are risky, and stocks are a better bet here Morgan Stanley's Wilson says this is not a new bull market and the Fed may reawaken the bear "Banking system losses - which could exceed 400 percent of the U.S. banking losses incurred during the subprime crisis - are starting to accelerate." China's banking system has grown to $34.5 trillion in assets over the past 10 years, from a base of $3 trillion, wrote Bass, who is famed as one of the few major investors to correctly call the U.S. subprime housing collapse that kicked off the 2008 global financial crisis. That prescience earned him a mention in Michael Lewis' book "Boomerang," which was about the European credit crisis. This expansion in the banking system's asset base was fueled largely by rapid credit expansion, Bass wrote, that helped fund the huge, and often inefficient, infrastructure spending program that has propped up China's growth. "China's [banking] system is even more precarious when we realize that, even at the biggest banks, loans are not made to borrowers based on their ability to repay," he wrote. "Instead, load decisions are political decisions made by the state." Add to this the danger posed by China's shadow banking system - made up of instruments Bass claimed the country's banks used to subvert restrictions on lending - and the upshot was there were "ticking time bombs" in China's banking system, the hedge fund manager explained.

"Chinese banks will lose approximately $3.5 trillion of equity if China's banking system loses 10 percent of assets," Bass wrote. "Historically, China has lost far in excess of 10 percent of assets during a non-performing loan cycle."

He noted that U.S. banks lost about $650 billion of their equity throughout the global financial crisis. The letter said that the Bank for International Settlements (BIS) estimated that Chinese banking system losses from the 1998-2001 non-performing loan cycle exceeded 30 percent of gross domestic product (GDP). "We expect losses in this cycle to exceed prior cycles. Remember, 30 percent of Chinese GDP approaches $3.6 trillion today," he warned. Bass wrote that he expected the massive losses to force Beijing to recapitalize Chinese banks and sharply devalue . "China will likely have to print in excess of $10 trillion worth of yuan to recapitalize its banking system," he said. "By the time the loss cycle has peaked, we believe the renminbi will have depreciated in excess of 30 percent versus the U.S. dollar." The hedge fund manager didn't return an email sent outside office hours requesting comment on the investor letter, which the Wall Street Journal reported was the first he had sent in two years. Bass' sentiments on the yuan aren't new, with the Wall Street Journal reporting earlier this month that he was among the money managers making bearish bets on the currency. The dollar has already fallen about 5.9 percent against the yuan since August, when a sharp devaluation by the People's Bank of China (PBOC) roiled markets; the greenback was fetching around 6.5710 yuan on February 5, the last day of trade before China's markets closed for a week-long Lunar New Year holiday. The PBOC has introduced a slew of measures to arrest, or at least slow, declines in the currency in the hope of achieving an orderly depreciation. The central bank has asked banks making yuan loans abroad to set aside more in reserves and has also hoovered up yuan in Hong Kong, a key market where the bearish bets have been made, effectively making it more expensive for traders to borrow the yuan to make these trades.