New risk control regulation brings net capital pressure

Xinhua Finance

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The revised Risk Control Indicator Management Method of Securities Companies is about to be implemented. In addition, as external risk tends to be increasing, securities traders will downsize scale of non-active private asset management plan targeting non-standard debt asset.

When dispute between Baoneng and Vanke keeps simmering, risk exposure of private asset management plan of securities companies, which seem to make money easily, is gradually revealed, attracting great attention from the industry and regulators. SSN learns that the revised Risk Control Indicator Management Method of Securities Companies is about to be implemented. In addition, as external risk tends to be increasing, securities traders will downsize scale of non-active private asset management plan targeting non-standard debt asset.

Senior management from securities indicated that channel business is regulatory arbitrage in essence. The securities traders will further downscale this business and shift focus to investment banking, active management investment management and other traditional capital intermediary business. It is basically consistent with the regulation theory.

New regulation on risk brings pressure of net capital

Downscaling channel business by securities companies is driven by new risk control system. Securities traders said to SSN in an interview that the revised Method brings greater pressure to net capital of small and medium-sized securities companies.

According to the new regulation, which will be carried out from October, the proportion of risk capital requirement to be withdrawn in channel business of private financial management will hike on the whole. Compared with the current computation sheet for loan loss provision based on ratings of various securities companies, the proportion for securities companies which have been rated as A-level for three years will increase from 0.2 percent to 0.63 percent, that for A-level and B-level securities companies up from 0.3 percent to 0.72 percent and up from 0.4 percent to 0.81 percent respectively.

This change will instantly exert influence on imposing net capital pressure on small and medium-sized securities firms. Taking Huafu Securities for example, according to data released by Securities Association of China, it is estimated that the non-active management-oriented asset management of the company is worth more than 470 billion yuan by the end of last year. If based on the new and old methods, the corresponding loan loss provision should be 940 million yuan and 2.96 billion yuan respectively at least, which cuts the loan loss provision by at least 2.02 million yuan.

According to public data of Asset Management Association of China, non-active management-oriented asset management business of 11 securities companies such as CITIC Securities, Huatai Securities, Shenwan Hongyuan Securities, BOC International (China) Limited, China Securities, Huafu Securities, Jianghai Securities and China Merchants Securities is all worth over 200 billion yuan. If these capitals are invested in non-standard debt asset, it means that the above 11 securities companies have to additionally withdraw as much as several millions or even billions yuan of risk capital requirement.

The loan loss provision means reducing core net capital and narrowing the scope of capital operation developed by securities companies. Given that the charges for channel business is usually low, securities companies will make the decision when channel business holds large amount of net capital and blocks the expansion of other high-yield business.

Meanwhile, some securities companies are downgraded not long ago, so the new risk control regulations bring greater impact to the loan loss provision of channel business.

According to recently unveiled rating results of securities companies, over dozens of securities companies are downgraded. CITIC Securities, Huatai Securities and Haitong Securities are downgraded from AA to BBB, while Founder Securities is even downgraded from A-level to C-level. For CITIC Securities and Huatai Securities being downgraded to BBB, they are no longer qualified for the provision standards set for companies graded as A-level for three consecutive years. According to the new regulation, for securities traders with rating unchanged, the proportion of loan loss reserve needed to be prepared is 0.63 percent, but now the figure is lifted to 0.81 percent.

Take CITIC Securities as an example, the passively-managed assets under the company reached 664.4 billion yuan as of end 2015, according to estimation by the Securities Association of China. 1.33 billion yuan should be prepared for loan loss reserve according to previous rules, but 5.38 billion yuan should be prepared under new rules, representing a gap as high as 4.05 billion yuan.

Non-negligible contagion of external risks

Besides significantly increasing pressure on net capital, another reason why securities companies tend to be cautious about such business is that external risks are more diversified and frequent now while the charge for asset management is low, external risks will pour inside securities companies once risks outbreak.

As evidenced by the disclosure of all parties involved in the dispute between Baoneng and Vanke, the asset management of at least one securities company is deeply trapped. The risks, including closing position, damaged prioritized fund cannot be repaid and etc., are hard to be estimated now. In contrast with the charge of channel business which is below a thousandth, the uncertainties far exceeds reasonable risk-reward ratio.

In fact, the risk exposure of asset management plans under securities companies has been unfolded earlier. According to a report released by the regulators, an unspecified securities company was entrusted by bank A to manage 1 billion yuan. The entrusted fund was issued as entrusted loans to an unspecified company in Yunnan province through the branch of bank B in Yunnan. It is later approved that the entrusted loan contract, legal text, seal and etc. provided by the company were all fake. Though the funds were fully recovered in the end, it shows that the securities company involved in the case made mistakes in due diligence, the verification of guarantee, the transfer of funds and etc., turning the asset management plan into a channel for obtaining loans through fraudulent means.

A top manager of a securities company in Shanghai indicated that removing channel business is a general trend for securities companies. As the supervision over channel business tightens, the size of private asset management under securities companies might dramatically decline in the future. It is expected that securities companies might focus on actively-managed asset management plans later. In addition, the companies will also devote greater efforts to investment banking and direct investment.

(APD/XH FINANCE)