China's lenders move on shipping business

As Western banks withdraw, their Chinese counterparts, with abundant capital and a long-term perspective, are providing new loans

Chinese lenders are fast becoming global leaders in ship financing, while Western banks are reducing or exiting their shipping loan portfolios. That disengagement is due to increasingly strict capital requirement regulations being enforced as the world's shipping industry faces its worst downturn in three decades.

In 2014, the last year for which statistics are available, three out of 15 of the world's largest shipping lenders were Chinese banks, together providing $45.3 billion of financing. That is just under 20 percent of the $258 billion total shipping finance debt of the top 15 lenders' combined, according the US-based intelligence firm Marine Money.

In 2007, before the financial crisis and consequent shipping market downturn, none of the Chinese banks made the global top 15 shipping lenders.

The three banks are Bank of China, the Export-Import Bank of China, and China Development Bank, ranking sixth, eighth and 15th, providing loan volumes of $18.5 billion, $15.8 billion and $11 billion respectively.

Industry insiders cite Chinese lenders' abundant capital and long-term perspective as key reasons behind their emergence, adding that they have entered the shipping finance market at an opportune time because ship asset valuations are already at a historical low, hence risks for a further fall in value are minimized.

"Chinese banks' increasing level of activity is very helpful for the entire shipping industry's dynamics in a difficult time," says Nigel Thomas, a partner at the law firm Watson Farley & Williams, who specializes in shipping finance.

"Despite the current low valuation on shipping assets, over the long term at least some sectors of shipping are expected to generate solid returns. Currently, many shipping assets, which are fundamentally sound from a longer-term perspective, are competing for sources of financing, so it is a good opportunity for Chinese banks to select more solid shipping assets to finance."

The global shipping industry has suffered from severely slashed commodity demand in recent years. The Baltic Dry Bulk Index, the most common measure of shipping activity levels, touched 290 points in February, marking the lowest level since records began in 1985. In May 2008, the index reached a peak of 11,793 points.

As of March 1, 2016, the global order book for new vessels totaled 4,461 ships of 283.2 million deadweight tons, down 11 percent year-on-year.

Meanwhile, banks globally face increasingly strict capital requirements. Under Basel III, the latest rules for improving regulation, supervision and risk management, for example, banks are required to set aside more capital for shipping finance compared with other types of financing such as property loans or business loans, meaning many Western banks now view shipping finance to be unprofitable.

Within such a context, Chinese banks were able to secure deals with some of the world's largest ship owners, such as Mediterranean Shipping Co, BP Shipping and Bourbon, all of which are considered the most attractive borrowers because their size means the risk of loan default is almost zero.

A recent example of a Chinese finance deal is ICBC Financial Leasing providing 18 tankers to BP Shipping over the next 10 years, a transaction announced in October, estimated to be worth $869 million.

"Shipping financing entities compete with each other on three aspects, which are volume, pricing and structure of deal, and ICBC was able to outperform other lenders on all three levels," says Dmitri Mikhno, director of London-based Clarksons Platou Debt & Leasing Solutions.

Alun Hatfield, managing director of Clarksons, adds that Chinese banks' more recent entry into the leasing business means they have more capacity to take on new loans because their capital is not tied to existing shipping portfolios. In comparison, many Western banks already have billions of dollars of shipping loan portfolios on their books, which makes further lending difficult.

In addition to financing new vessels, some experts believe opportunities exist for Chinese banks to purchase existing shipping loan portfolios of Western banks that are looking to exit ship financing to free up capital.

Sellers in this market are plenty. Lloyds Banking Group exited the shipping market in 2014 when it sold the last $500 million of loans from its ship finance portfolio. That same year, Commerzbank sold a shipping portfolio worth 160 million euros ($182 million), and in 2015, Reuters reported that RBS put up $5 billion of shipping assets for sale.

Christoforos Bisbikos, a Hong Kong-based partner at shipping finance experts WFW, says buying existing loans allows Chinese banks to get a good assessment of the credibility of ship owners. "Buying existing loan portfolios is the best credit check you can get, because you can get trade records of the ship owners that could go back decades, so it reduces the risks of lending to those owners."

Harry Theochari, global head of transport at London-based law firm Norton Rose Fulbright, adds that the downside risks for Chinese banks to own these shipping portfolios is smaller than for Western banks, because they would probably buy these portfolios at a discount to market value.

If the market value of the shipping assets increases, Chinese banks would gain, but if the market value of ships does not increase or the ship owners default on their loans, then they sell the ships to a shipping company that they have a close relationship with, rather than trying to recover the balance through court sales, Theochari says.

For example, China Merchants Bank has a close relationship with China Merchants Energy Shipping, which is technically a separate legal entity, although both companies are a part of China Merchants Group. Western banks, by comparison, do not have such close relationships with shipping companies, so when ship owners default they can recover balances only from court sales, which means typically selling below market value.

While shipping industry experts offer different forecasts on the shipping industry's revival, many are seeing China's Belt and Road Initiative as a promising way to anchor its long-term prosperity. They see Chinese investment in ports covered by the initiative, including Greece's Piraeus Port and Turkey's Kumport, as evidence of the strategy's development, which is set to boost Eurasia connectivity - and seaborne trade.

"An efficient and productive Chinese shipping industry will support the Belt and Road vision. The leasing and financial arrangements of the global shipping industry are increasingly sophisticated, and this will result in robust medium-term growth as global trade increasingly centers around China," says Fay Zhou, a Beijing-based partner of the law firm Linklaters.

Critics, however, are not so optimistic about the increasing shipping credit being provided by Chinese banks, warning that cheap capital provided by Chinese financiers may exacerbate the problem of oversupply of ships.

"The current lackluster global shipping market is due to years of cheap money available in the market, coupled with disrupted demand from the developed markets and an abrupt slowdown in China. Any form of additional cheap capital, whether provided by banks or some Chinese ship leasing firms, will only aggravate the current oversupply," says James Tong, Citibank managing director and regional head of global shipping and logistics in the Asia-Pacific region and Japan.

Andreas Povlsen, founder and CEO of the London-based maritime finance firm Breakwater Capital, adds that Chinese banks should make sure that their financing activities do not distort the market.

"It is important that Chinese banks study the quality and specification of the ships they finance carefully. They should focus on efficient procedures to monitor the assets and effectuate the closing of the deals, and make sure the deals are structured appropriately," Povlsen says.

cecily.liu@mail.chinadailyuk.com

(China Daily European Weekly 04/15/2016 page8)