Slower credit and banking assets growth, but with improving mix    According to the latest data on loans/TSF and the banking system, China’sfinancial deleveraging has been orderly: credit growth softened further,M2/GDP continued to slide, shadow banking has been shrinking while loangrowth stayed resilient and wholesale funding declined. Another positivedevelopments this month is that short-term consumption loans have slowed ontighter rules, a notable portion of which was used to finance propertypurchases. From the financial system’s perspective, we see improvingtransparency and lower systemic liquidity risks. Big banks should be the keybeneficiaries of the neutralized monetary policy.Softened credit growth, leading to moderated system leveragePBOC released Oct new loans of Rmb663bn and TSF of Rmb1,040bn, bothfalling short of consensus. Including the new municipal bonds of Rmb340bn,the adjusted system credit growth slowed mildly to 14.9% yoy from 15.0% lastmonth. Notably, following a series of tightening regulations, banks are bringingoff-BS shadow banking into on-BS, leading to stable loan growth (13.0% yoy),but slower shadow banking growth. We note that banks, especially smallerbanks, have been shrinking their on-/BS receivable investments, which mainlyconsists of shadow banking credit. Slower credit growth resulted in slowerM2. Together, with pick-up in nominal GDP, it has led to lower M2/GDP,dropping to 206% in Oct 2017versus the record-high of 210% this March.    Who is borrowing? Household borrowed less, while government levered up    A breakdown by borrowers suggests that the household/corporate sectorborrowed modestly less in Oct, with its new credit making up 29%/30% of thenew system credit (31%/40% in Sept); government accounted for 37% of thetotal new credit. For households specifically, monthly new short-term retailloan recorded Rmb79bn in Oct 2017against an average volume of Rmb171bnin 9M17. We attribute this to tightening scrutiny over consumption loans. Asdiscussed in our report Where did consumer loans go?, we estimate 1/3of newconsumption loans may be used to finance the purchases of second homes.Elsewhere, mortgage loan growth slowed to 24.4% yoy in Oct (Sept: 25.5%).    Who is lending? Balance sheet contraction continues among smaller banks    China’s banking assets growth further slowed to 10.2% yoy in Sept (vs. 2016:16.5%). Banks have scaled back interbank borrowing and NCDs due to thehigher funding costs. This has led to the unwinding of interbank lending. Bybanks, the slower asset growth was mainly dragged down by smaller banks.Total asset growth of joint-stock and city/rural banks (44% of total bankingassets) decelerated to 10.7% yoy in Sept from 19% in 2016. In contrast, BigFive banks’ (36% of total banking assets) asset growth rebounded slightly to8.5% yoy in Sept (Aug: 8.2% yoy).    Policy outlook – easing unlikely, elevated market rates to benefit the Big Four    While the deleveraging may contribute to a modestly slower economy, growthmomentum is in line with our house view. We believe China will likely continueto push for financial deleveraging, as the goal has not been achieved andeconomic conditions are resilient. With elevated market rates, the big banksshould benefit. We continue to prefer big banks and stay cautious on smallerones. Top picks: BOC, ABC and CCB.

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