Fund focus: Shoreline rides the China credit cycle

China is currently entering the fourth phase and it is against this backdrop that Shoreline has closed its third fund at $500 million - compared to $303 million for Fund II. The GP has also reached a first close of a $115 million on an overflow vehicle that is expected to reach its $200 million target within a month.

"What was in question a year ago but no longer is in question is whether Chinese banks would recognize and sell their NPLs en masse," says Fanger. "In December we did our first deal, buying several hundred NPLs for more than $150 million. It was the beginning of a series of very large deals for Shoreline."

About 70% of the Fund III corpus has already been called, the vast majority of it for NPL transactions - in contrast to Fund II, which focused on special situations. There are two main reasons for the switch. First, Fund II launched in 2011, so it fell in between China's two most recent credit cycles. Second, the current cycle is fundamentally different to the previous one - in a good way for NPL investors.

Foreign investors were first drawn to China NPLs a little over 10 years ago. The government wanted to shore up the Big Four state-owned banks and so a swathe of NPLs were transferred off their books - most at 100 cents on the dollar - to asset management corporations (AMCs). However, the AMCs were not mandated to sell off a certain number of NPLs and so there was often a mismatch between the quality and pricing of the loans put up for auction. Many foreign investors went away disappointed.

Phase one of the current cycle started in 2009 with the credit boom introduced in the wake of the global financial crisis. As growth has slowed in the last few years, NPLs have emerged - but this time the banks are under pressure to recognize bad debts honestly. They are therefore incentivized to sell at a suitably competitive price.

Shoreline's 40-strong team scours the country for investment opportunities, dealing with an array of regional branches rather than just the four original AMCs. Indeed, the AMCs now sometimes partner the GP on deals. Loan quality has also improved. In the previous cycle, less than one third of the NPLs Shoreline purchased were secured by assets that could be liquidated, and they often involved state-owned enterprises or companies that had ceased operating.

"The portfolios we are seeing now are much more highly secured, 60-85%, and 100% of the loans we bought this year were to privately owned companies, not SOEs," Fanger explains, while stressing that positions can still carry significant risk. "Many of the borrowers are still operating, they just couldn't pay their loan back for a period of time."

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• Topics
• Fundraising
• Greater China
• Credit/Special Situations
• China
• Distress
• Fundraising
• Shoreline Capital Management