Chinese Shadow Bank Zhongzhi Faces Bankruptcy Amidst $36.4 Billion Debt Crisis

According to a statement from Beijing's First Intermediate People’s Court, the Chinese shadow bank Zhongzhi has filed for bankruptcy, and its application for liquidation has been accepted, reports BankingDive. The statement, viewed by Bloomberg, revealed Zhongzhi's acknowledgment of its clear inability to repay its debts.

In November, Zhongzhi disclosed a deficit of up to $36.4 billion, conveying to investors in an open letter that it was "severely insolvent." The letter attributed the financial turmoil to the unbridled actions of the management following the 2021 demise of the firm's founder, Xie Zhikun. An audit conducted in November revealed Zhongzhi's debts ranged between 420 billion yuan and 460 billion yuan ($64.4 billion), juxtaposed with assets totaling 200 billion yuan ($28 billion). At its peak, the firm had overseen more than $140 billion, as reported by Bloomberg.

The subsidiary of Zhongzhi, Zhongrong International Trust, reported approximately $108 billion in assets under management at the end of 2022, but several Chinese companies indicated non-receipt of anticipated interest or principal payments from products managed by Zhongrong. Shortly after Zhongzhi's open letter, the wealth management arm of the institution became the subject of a police investigation for unspecified crimes, as reported by the Financial Times.

The collapse of Zhongzhi highlights potential vulnerabilities in China's $2.9 trillion trust sector, a loosely regulated financial gray area offering investment products to affluent individuals and businesses. This sector is pivotal for various borrowers, including real estate developers and local governments. Recent efforts by the Chinese government to curtail trust funds' exposure to real estate have gained momentum. In the second quarter of 2023, Chinese trust companies reduced their exposure to the property sector to 6.7%, down from 15% in 2019, according to research from Natixis, as reported by the Financial Times.

Zhongrong's trust funds, as per their 2022 annual report seen by The Wall Street Journal, allocated 11% of their assets to the property sector. Zhao Jian, head of the Atlantis Financial Research Institute in Beijing, emphasized challenges in timely asset collection due to the persistent decline in the real estate market, stringent policies, and increased financial anti-corruption measures. A Hong Kong-based fund manager expressed surprise at Zhongzhi's swift move into liquidation, noting that other Chinese companies with missed payments typically choose to defer restructuring.

Despite reassurances from Zhaopeng Xing, a senior China strategist at ANZ, that the risk of contagion from Zhongzhi has passed, Xiaoxi Zhang, an analyst at Gavekal Dragonomics, cautioned that a knock-on impact remains a possibility. Zhang mentioned a potential deterioration in domestic investor sentiment, especially among wealthy investors, and the likelihood of other shadow bank institutions facing similar fates. Zhongzhi has not yet responded to requests for comment.