How foreign securities houses should enter China
Foreign banks hoping to break into China’s capital markets will have an open invitation at the end of next year, when final restrictions on their ownership of securities houses are removed. They will have some small successes with secondary trading but muscling in on primary capital markets will prove expensive ─ and risky.
Foreign banks are rightly excited about their chances of getting unfettered access to China’s capital markets. They can already own 51% of onshore securities joint ventures but the China Securities Regulatory Commission (CSRC) said last month that it would scrap that limit on December 1, 2020.
As GlobalCapital has reported previously, that offers real opportunities for those firms already operating in the market, most of them burdened by a majority partner, as well as foreign banks that have not yet made the move. UBS and HSBC both have majority-owned JVs, Nomura and JPMorgan got permission in March to create their own. Just last week, Goldman Sachs and Morgan Stanley also got the nod to lift their holdings in Goldman Sachs Gaohua Securities and Morgan Stanley Huaxin Securities to 51%.
But in Beijing last week, foreign bankers revealed their fears about how much — or, indeed, how little — impact China’s open invitation would have on their businesses. Any bank CEO with a modicum of global ambition will talk at length about the need to grow in China. But few are sure how to do it.
A big problem is the cut-throat competition foreign banks face in the domestic primary bond markets. Their local rivals will swallow small fees and use buckets of their own capital to underwrite deals. Many of them are not only willing to hold bonds on their own balance sheets, but eager. DCM, for these firms, is a way of sourcing investment opportunities.
Few foreign banks will play this game. Most are unwilling to dramatically adapt their underwriting standards to add ‘Chinese characteristics’. Too many appear to be pinning their hopes on a naïve belief that ‘global standards’ will sway clients who want to prove they can play in the international marketplace. But when much of your competition will come from other global banks, ‘global standards’ hardly offer a unique pitch.
A few banks will make it work, most likely those whose relationships in the onshore market will simply echo those they have already built offshore. The favourites should certainly be those who have already set up JVs in the country, although separating their relationships from local partners/rivals may prove difficult.
The best solution seems to be approaching the market with humble ambitions. One China head at a global firm said he plans to concentrate his near-term efforts on the country’s secondary markets. Broking may not be a glamorous business, but it does present an obvious step for foreign bankers hoping to bring their offshore clients into the market.
Primary business is a more obvious step for swashbuckling global investment banks, but it also presents problems. But is it worthwhile? A head of DCM at an onshore securities house recently told GlobalCapital Asia's sister publication GlobalRMB that 10 years ago, the firm could earn as much as Rmb100m ($14m) in fees underwriting three large corporate bonds. Now that number has gone down to just a few million.
Consider another set of numbers: Citic Securities, Haitong Securities and Guotai Junan Securities had Rmb232bn, Rmb166.4bn and Rmb174.1bn in financial assets on their balance sheets at the end of September. UBS Securities, HSBC Qianhai Securities and Goldman Sachs Gaohua Securities, three of the biggest foreign JVs in terms of total assets, held just Rmb4.10bn, Rmb1.69bn and Rmb1.68bn at the end of last year, respectively.
These firms are all likely to increase their local asset base in the coming years but their growth will be careful — and almost certainly slower than some of their hyper-aggressive local rivals.
Cue a wall of new entrants trying to position themselves as the broker of choice for foreign investors entering China. This will be neither sexy nor as lucrative as many banks would like. But it is still a sensible step in a country that offers almost as many hurdles as it does opportunities.