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Property market, equities top four major risks in China: Pimco

Three months into China's market turmoil early this year, the outlook for the world's second-largest economy remains murky.

China's repeatedly assured that the economy is not headed for a hard landing and growth will be between 6.5 and 7 percent this year. Private economists seem less confident.

Official GDP (gross domestic product) growth will likely end up in the 5.5 to 6.5 percent range amid headwinds, according to Luke Spajic, a portfolio manager at Pimco.

Spajic, along with this colleagues, identified the four big risks for the Chinese economy in a report released on Friday:

Leverage

China has accumulated over $21 trillion in debt since 2007 – more than one third of the world's debt, said Spajic.

The worrying part is that the amount of growth that each new dollar of debt is generating has been declining.

If nominal GDP expands close to the government's target this year, China will need to add at least 15 percent of debt to GDP.

"So leverage will continue to rise, but its ability to generate new growth is diminishing" added Spajic.

Non-performing loans

At end-2015, China's NPL ratio stood at 1.4 percent and will likely trend up over the next three to five years, said Spajic.

Pimco's internal stress tests of Chinese banks suggest that NPL ratio could peak around 6 percent under the house's baseline forecast for growth.

A dramatic injection of capital into the banking system over the next year is unlikely, as NPLs are still manageable and well-flagged for the long-term.

Property market

Property investment will continue to be a drag on growth although prices will likely end 2016 in slightly positive territory.

Real estate is unlikely to be a driver of growth in the near term, however.

Equities

China has the second largest equity market in the world by market capitalization although policy experiments and interventions have failed to temper market turbulence, putting regulator China Securities Regulatory Commission, which replaced its chief in February under increased scrutiny.

Stocks are down 15 percent this year, denting confidence.

"Against this backdrop of volatility, Chinese securities are expected to enter the MSCI Emerging Market Index later this year."

Of the four drivers of risk, the property market generates the widest concern, although equities will be hardest to control, said Spajic.

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