Debt of honour

Last week, accounting and consulting firm Ernst & Young released its 20th report on the global bad debt market. The report tracked a number of trends that have emerged as the non-performing loan (NPL) market has gone from a collection of scattered, rag-tag transactions to a $1.5-trillion (€1.2 trillion) industry that spans the globe.

The report suggests NPL investment activity will remain steady over the next 12 to 18 months, as banks continue to try to get bad loans off their balance sheets.

The report makes clear that NPLs are a global business. The largest potential NPL market is China, with around $900 billion in bad debt. However, the report concluded that the most active market is Germany, a country with $300 billion in potential bad debt transactions.

Discussing the report on a panel at the Harvard Club in New York last week, Ernst & Young real estate partner Mark Grinis talked about why the NPLs were of interest to private equity real estate funds. “The goal is to buy this thing and turn it into cash,” he said. “It is the grounds of what opportunity funds are all about – bad information, lack of transparency and risk.”

Participants predicted that new investor activity will most likely focus on markets where activity is continuing at a slower pace, including Thailand and Indonesia, and countries with an emerging NPL trade, like China, India and the Philippines.

But many on the panel voiced investors’ frustrations with China, where state-owned banks have been slow to want to liquidate their bad debt. The deals aren’t getting done; this has left investors frustrated – and looking elsewhere for deals.

“My concern is [Chinese] banks looking to IPO will send a message that the non-performing loan problem is behind them,” said Jack Rodman, a Beijing-based partner for transactions and advisory services. Since 1998, Chinese banks have transferred over $300 billion to asset management companies. 

This disposition of Chinese NPL has increased in the lead-up to public offerings by the banks looking to clean up their balance sheets. To wit, one panelist said that Oriental Asset Management Company had recently hired four asset managers in a single month—having not brought in new talent for years. 

Perhaps offering hope to China and its $900 billion in bad debt, the report notes that Japan currently has $100 billion in NPLs. When the country virtually kick started the distressed debt investing in the late 1980s, it had more than $1.3 trillion in bad debt.

Still, Rodman cautioned that the NPL markets are for savvy investors with an appetite for a gamble. “This is not for the faint of heart,” he said. “We think it is highly opportunistic.”