In Depth: China bad-debt managers’ bet on bank stocks could backfire

A NEW player has emerged in the boardrooms of China’s major banks: the “Big Four” state-owned asset management companies (AMCs) created to clean up the bad debts of four state-owned commercial lenders. The balance sheets of the “Big Four” are now glowing with profits — thanks not to their core task, but to a surge in bank stocks.

On Sept 30, Shanghai Pudong Development Bank (SPD Bank) disclosed that China Orient Asset Management had increased its stake in the bank to 3.44 per cent, becoming its fifth-largest shareholder, and nominated one of its own executives as a director. With this, the “Big Four” AMCs, also known as “bad banks” — including China Citic Financial Asset Management, China Cinda Asset Management and China Great Wall Asset Management — have become major shareholders in some of the country’s biggest commercial banks.

The strategy has paid off handsomely, at least on paper. Battered by a prolonged real estate crisis that has decimated the value of their traditional distressed property holdings, the quartet’s profits have swelled as rising valuations of bank holdings and a favourable accounting treatment — known as the equity method — allow them to record one-time gains. Citic Financial’s 2024 report showed that nearly three-quarters of its revenue mainly came from equity-method gains on its long-term equity holdings — bank stocks being a major contributor.

But behind the glossy numbers, analysts warn of a potential risk. The AMCs’ expanding bank stakes blur the line between a risk absorber and a risk amplifier, as the seeming “win-win” could quickly turn into a shared vulnerability if markets turn or credit conditions tighten.

Profitable pivot

Industry insiders trace the trend back to 2022, when the AMCs were encouraged to act as “white knights” to shore up the banking sector’s balance sheets. Citic Financial, then known as China Huarong Asset Management was the first to take the plunge the following year, buying China Everbright Bank’s convertible bonds and converting them into equity.

And when bank shares rebounded in 2024, Citic Financial found itself sitting on substantial gains. The profits were too tempting for its peers to ignore — the AMCs now classify bank stock purchases as “special opportunity investments,” according to sources with knowledge of the matter.

“These types of investments involve projects with strategic scarcity, and investments in high-quality bank stocks are a typical example,” an executive at one of the four AMCs told Caixin. “These opportunities are rare and not something you can invest in whenever you want. They often require coordination at the central government level.”

The four AMCs have different levels of exposure. Citic Financial holds the biggest positions, with 7.9 per cent of Everbright Bank, 4.7 per cent of Bank of China Ltd. and 9.9 per cent of Citic, which controls China Citic Bank. Great Wall owns more than 3 per cent of China Construction Bank. (CCB) and China Minsheng Banking, while Cinda and Orient have taken similar stakes in SPD Bank. Except for CCB, each AMC has a director on the board of the bank it invests in.

For the AMCs, the appeal is clear. For the past 20 years, the main collateral underlying the distressed assets handled by AMCs has been real estate, explained an investment banker familiar with the industry. But property prices have been in a persistent slump in recent years, weighing on AMCs’ financial performance.

Accounting alchemy

For AMCs, the surge in profits owes much to accounting alchemy. Using the equity method, investors that hold a significant stake — typically with a board seat — can book their investment at book value, an AMC mid-level manager told Caixin. Because many Chinese bank stocks still trade below book value, the gap between purchase price and accounting value produces an immediate, significant paper gain.

Citic Financial has been one of the clearest beneficiaries. After swinging back into the black in 2023, the firm reported a net profit of 9.6 billion yuan (S$1.75 billion) in 2024, with revenue up 53.5 per cent. Of its 107.4 billion yuan in revenue that year, a whopping 72.4 per cent came from “other income and other net gains,”mostly from equity-method investments, including in Bank of China, Citic and Everbright Bank.

This accounting quirk explains why AMCs are so eager to secure board seats at the banks they invest in — it allows them to claim “significant influence,” which justifies using the equity method for long-term investments, according to a person familiar with financial accounting practices.

But the risks are already visible on paper. At the end of 2024, Citic Financial’s holdings in Bank of China, Citic and Everbright Bank were valued at 85.8 billion, 73.2 billion and 34.7 billion yuan, respectively. If those shares were re-evaluated at market prices or sold off, the AMC could face losses in the tens of billions of yuan, according to a report by think tank Hinge Vision.

Dangers of straying

This shift raises the question of whether AMCs are straying too far from their primary function. The trend of bank investments comes just after regulators had been pushing AMCs to divest noncore financial assets and refocus on distressed assets.

AMC executives insist their focus remains on nonperforming assets. “The main challenges facing the industry are not a lack of willingness to acquire assets, but an insufficient supply of viable assets and the long, difficult process of disposing of existing ones,” a senior AMC executive told Caixin.

However, large-scale equity investments in banks tie up vast amounts of capital, as they carry significantly higher risk weightings at 250 per cent, compared to under 100 per cent for most debt exposures.

Moreover, the deeper AMCs sink their capital into banks, the more their fates intertwine.

Hinge Vision warns that the model is fragile. Because much of AMCs’ capital buffer is built on inflated valuations, even a modest 20 per cent decline could erase profits and push capital adequacy ratios toward regulatory red lines.

Funding mismatches add to the risk. Some AMCs have financed their bank share purchases through short-term borrowing, from interbank loans to insurance debt plans, while the equity investments themselves are long-term and less illiquid.

A cash crunch at one AMC could ripple outward. Ratings agency S&P Global Inc. has flagged the risk of contagion across the financial system, noting that when an AMC holds a stake as large as 10 per cent in a financial institution, it typically indicates a close link that could transmit stress across the system.

Hinge Vision urges regulators to draw clearer boundaries, calling on AMCs to refocus on distressed-asset resolution and risk mitigation, with strict limits on long-term investments in large financial institutions. Caixin Global