Doubts dog China Galaxy Securities' listing plan

China Galaxy Securities, the mainland's sixth largest brokerage firm by revenue, is pitching its initial public offering to investors by offering to expand its money-making margin financing business at a time when domestic stock markets are showing signs of recovery.

However, Galaxy's larger rivals Citic Securities and Haitong Securities are struggling to make meaningful headway in the margin financing and securities lending business, and some analysts say the lack of relevant derivative instruments to hedge against risk associated with underlying securities is one of the main restraints prohibiting healthy development.

"The absence of credit default swaps, a financial swap agreement that functions as an insurance to hedge against default risk, is a classic example of the underdevelopment of the domestic corporate bond market," a senior banker at a US investment bank said. "A market-driven mechanism needs comprehensive services to support a sustainable development."

Galaxy, based in Beijing and controlled by Central Huijin Investment, a subsidiary of the sovereign wealth fund China Investment Corp, is poised to unveil bold plans to capture the country's nascent short selling and securities borrowing industry.

Securities firms believe policymakers in Beijing will spur the development of the country's capital markets, especially in the areas of equity trading, bond issuance and greater openness to foreign investors, who are keen to invest in the closely guarded securities markets.

China introduced the pilot trading scheme allowing margin financing and stock lending for brokerages firms to stock exchanges in August. That was seen as an attempt to boost lacklustre operating conditions after the benchmark Shanghai Composite Index fell below the psychologically important 2,000-point level, the lowest since February 2009.

Meanwhile, there is widespread speculation that a number of large state-owned commercial banks, including China Construction Bank and Industrial and Commercial Bank of China, have applied for securities brokerage licences. That poses a risk to Galaxy's expansion plans, as a majority of its customers are retail investors.

In its prospectus the company said: "Commercial banks … present a greater challenge to securities firms' business in areas such as bond underwriting, financial advisory and sales of wealth management products, by leveraging their branch network, client base and capital base."