Thursday, May 04, 2006

Bad Loans A Big Global Business

The Financial Times has this report on the after-market for bad loans. "The global business of trading non-performing loans (NPLs) has exploded in recent years, as banks have been forced to deal with mountains of bad debt created by reckless lending, a report from Ernst & Young has claimed. Markets such as China could provide even better opportunities for traders, as regulators finally force the banks to offload their bad loans."

"Indeed, the scale of the Chinese bad loans that have been created by reckless lending could now reach $900bn in total, the E&Y report concludes; three times the level of bad loans seen in Germany and larger than China's total volume of foreign exchange reserves."

"'A combination of poor lending practices, inadequate regulation and failures to reform banking systems has created huge losses for [global] banks over the last 20 years,' says Jack Rodman, one author of the report. 'We estimate the average recovery of NPLs worldwide to be about 33 cents on the dollar.'"

"The explosion of the global NPL business reflects a two-decade effort by American investment bankers to export a set of highly profitable techniques that were first developed in the US to trade bad loans."

'These practices emerged in Texas in the 1980s, when a host of small US financial institutions became insolvent after a property bubble collapsed. They cleaned up their balance sheets by selling these bad loans to outside investors, such as investment banks and hedge funds, who then created the infrastructure needed to trade these assets in a manner that was often profitable for the investors."

"In the mid-1990s, bankers took these techniques to Asia, where the Japanese banking system was also burdened with a vast overhang of bad loans and countries such as Thailand were suffering financial distress following the Asian crisis."

"NPL traders are moving into new markets, such as India, which is estimated by E&Y to have the fourth-largest level of NPLs in the world. However, the focus of activity in recent months has been Germany, which is believed to have the third-largest pile of NPLs, worth about €300bn."

"China's bad debt total arguably exceeds this German figure by a wide margin: the report suggests that the big four Chinese banks alone have $358bn of bad loans."


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