According to Moody's, the launch in July of China's first-ever bank-sponsored securitization transaction with a revolving structure in the interbank bond market has set a precedent that other banks may follow in their securitization of small- and medium-sized enterprise (SME) loans.

"The Bank of Ningbo Co., Ltd 's (Bank of Ningbo) ABS transaction qualifies for off-balance sheet accounting treatment, and brings more certainty to the economics of a securitization transaction with revolving structures -- which allow for the addition of new loans to the underlying pools once others mature -- therefore setting the stage for further deals of this type from China's banks," says Georgina Lee, a Moody's Assistant Vice President.

"The deal launched by the Bank of Ningbo is backed by consumer loans, but SME and consumer loans in China share many common attributes, such as short tenors," says Lee. "In deals with short-tenor assets, a revolving structure is important because it resolves the mismatch between the short tenor of the underlying loans and the longer-term maturity of the securitization scheme."

Moody's conclusions were contained in a just-released report on securitization in China, titled "China Securitization: Revolving Structure Sets Precedent for SME Securitization by Chinese Banks".

For Chinese banks, a key motivation for securitizing assets is to shift them off their balance sheets and therefore gain relief from regulatory capital requirements.

In addition to shifting assets off balance sheets, securitizing SME loans could be attractive for Chinese banks because of the typically higher interest rates on these loans.

Higher interest rates raise the prospects for excess spread, which results in better credit enhancement, in turn potentially increasing demand from investors and excess spreads for originators.

By shifting assets off their balance sheets, banks that are governed by regulatory capital adequacy requirements can hold less capital, which also means that they can use any capital that is released to invest or for other lending to improve return on assets (ROA). At a time when the profits of Chinese banks are under pressure, there is a growing focus on lifting profitability by enhancing ROA.

Prior to the Bank of Ningbo deal, uncertainty had persisted in China on whether deals with revolving structures could qualify for off-balance sheet accounting treatment.

This element of doubt prevented banks from issuing SME securitizations with these structures, but the Bank of Ningbo deal throws new light on how to address the accounting issue as it qualified for such treatment.

At end-June 2015, total outstanding small and micro-enterprise loans accounted for about 30% of all outstanding corporate loans by Chinese banks, and this share is expected to grow. The regulators and China's State Council have raised the need for securitization as banks continue to grow their SME business.