Last checked at 
By Clare Baldwin and Nishant Kumar
HONG KONG, July 12 (Reuters) - The Ping An Insurance GroupCo of China Ltd has, for years, been thecountry's financial industry darling.
With close ties to the top of the ruling Communist Party, ithas grown into a financial services giant with a marketcapitalization of $47 billion, thanks in part to an aggressivepush into banking.
But a government crackdown on risky lending has left PingAn's banking arm exposed to the turmoil roiling China's markets,and threatens to create a financial headache for Beijing.
The pressure building on Ping An Bank is thestarkest sign yet that the punishment meted out by Chinesepolicymakers to lenders relying too heavily on interbank fundingis rippling wider, threatening larger, systemically-importantinstitutions.
If China's financial markets continue to wobble, Ping AnBank would likely have to write down assets and both the bankand life insurance businesses would need to be recapitalised byabout $20 billion to keep them above solvency minimums - more ifPing An raises its stake in Ping An Bank - said Thomas Monaco, amanaging director at Hong Kong-based research firm Forensic AsiaLtd.
"In the case of Ping An you have a fundamental breakdown inall of their major businesses," said Monaco, who has a "sell"rating on the stock.
Ping An raised $2.5 billion through a private placement inHong Kong in 2011. It got the go-ahead from the China SecuritiesRegulatory Commission in March to issue 26 billion yuan ($4.24billion) worth of convertible bonds.
China's central bank briefly allowed short-term interbankrates to surge last month - sending a blunt signal of itsdetermination to rein in risky lending that left the financialsector reeling.
Ping An's shares have fallen 19 percent this year and, in amore ominous sign of trouble ahead, short-sellers have piledinto its Hong Kong listed shares.
It is now the third most-borrowed stock in the Hang SengIndex - a measure of interest from "shorts" who sellborrowed stock hoping to profit from buying it back cheaperlater - according to data from Markit. As much as 39 percent ofthe Ping An shares that could be borrowed were out on loan onJuly 10, up from about 4 percent in February.
AGGRESSIVE LENDING
Privately run Ping An is China's second-largest insurer. Italso has a bank subsidiary and a brokerage arm. In addition,Ping An owns one of China's 66 trust companies, which buy loansfrom banks and package them into investment products.
Ping An Bank accounts for only about 11 percent of theGroup's net fees and commission income, but its aggressivetactics have left its parent company exposed in Beijing'scrackdown.
With one of the smaller branch networks in China - 450branches in 33 major cities - Ping An has turned to shorter-termand more volatile wealth management and trust products toattract depositors. Such products, along with acceptances,letters of credit and guarantees, accounted for about a third ofthe bank's outstanding credit at the end of last year, accordingto a June analysis by Fitch Ratings.
Even so, Ping An Bank still has one of the higherloan-to-deposit ratios in China, and a high overall cost ofdeposits, meaning any upset in the market could squeeze thebank's available cash.
Fitch calculates that 75 percent of Ping An Bank's loansmust be repaid in order to meet short-term cash outflows, andthat it is the least prepared to cope with credit deterioration.
One measure of the difficulty Ping An Bank has in generating cash from its banking business is its net interest margin, ametric used to assess how successful a lender is at generatingincome compared with its cost of funding.
Ping An Bank's net interest margin fell to 2.37 percent lastyear, below the China bank median of 3.4 percent. Ping An saidthis was due to the central bank's lower interest rate policyand to more interbank business.
Ping An Bank's bad loans more than doubled last year.
The bad loans were concentrated in eastern China, and werefully manifested last year, Daphne Chan, an external spokeswomanfor Ping An, told Reuters in an e-mail. She said that most ofthe loans were secured and collateralised, adding that Ping AnBank was relatively healthy and had very few assets that neededto be written down.
She said that, while the bank's capital adequacy ratios werein compliance with relevant regulations, Ping An had plans toraise additional capital to shore them up.
"We have formulated a series of plans to enhance our capitaladequacy, including a 20 billion yuan private placement and a 50billion yuan subordinated term debt," Chan said.
Ping An's conglomerate model and exposure to banking isunique among Chinese insurers, and can be traced back to itsclose ties with the Communist Party, which helped it avoid beingbroken up in the wake of the Asian financial crisis.
Its core insurance business is still performing well,although its investment portfolio has suffered due to volatileequity markets.
Ping An's trust, the fourth-biggest in China, showed a 43percent increase in net profit last year.
But such trust companies are also part of the vast "shadowbanking" system that Beijing is taking aim at in order tocontrol credit growth, and the crackdown is expected to forcetrusts to pare back their business.
"In our view, Ping An is still the best-run insurancecompany in China," Morgan Stanley insurance analyst Ben Linwrote in a research report earlier this week, rating the stockas an "overweight," a rating usually interpreted as a "buy".
"However, concerns about the bank and trust operations couldcontinue to weigh on the stock," he said.
