“I am not sure if you have already commented on the article on the front page of Wedensday's FT by Simon Rabinovitch:

“Concerns over local government bonds...provinces, cities, counties and villages across China are now estimated to owe the equivalent of 20% to 40% of the size of the economy.

“Your insight would be appreciated, as always.”

Eoin Treacy's view Thank you for your kind words and this question which may be of interest to subscribers. Here is a section from the article I believe you are referring to:

Mr Zhang added that he grew alarmed when smaller towns and counties discovered that investment vehicle bonds were an easy way to raise financing. “This evolution was quite frightening,” he said. “China has more than 2,800 counties. If every county issued debt, it could lead to a crisis. It could be even bigger than the US housing crisis.”

Beijing has taken steps to control bond issuance by the local governments' investment companies. In December, the finance ministry barred them from injecting public assets such as hospitals and schools into the special purpose vehicles they use to sell bonds.

Bonds issued by government-owned investment companies almost always receive top-tier credit ratings from domestic agencies because they are seen as being guaranteed by the provinces and cities that back them. But Mr Zhang puts little faith in official guarantees, saying ShineWing only audited bonds if it was very clear that borrowers were able to make repayments: “When the time comes, it won't be the government that assumes responsibility. It will be the accounting firms and the banks that do.”

China does not have a local property tax. Therefore local and provincial governments rely on other methods to generate revenue. Traditionally, they have relied on land sales to raise income but as the central government weighed on the banking sector to try and curtail property market speculation the need to find other sources of income have increased.

Western investors will be familiar with the expediency of special purpose vehicles. These entities allow local governments, companies and individuals to act in a manner that is often prohibited under normal circumstance by keeping risky assets off balance sheets. SPVs have been a feature of the Chinese banking sector for quite some time and are likely to remain so. Do they represent a risk to the financial sector? Yes. The more important question is whether that risk is likely to pose an imminent threat? I suspect not.

The Xinhua FTSE A600 Banks Index found support in the region of the 200-day MA this week following a reversion from its February peak and posted an upside weekly key reversal. Follow through next week would bolster the bullish argument while a break back above 10600 would confirm a return to medium-term demand dominance. The Shanghai A-Shares Index has a similar pattern; also finding support in the region of the 200-day MA this week.

The Hong Kong listed H-Shares Index (P/E 8.68 Yield 3.53%) has pulled back over the last two months to test the 10000 region and rallied from that area today. A sustained move above 10850 would break the progression of lower rally highs and suggest a return to medium-term demand dominance.