China's booming trust industry not sustainable, McKinsey report says

PUBLISHED : Friday, 29 November, 2013, 4:10am
UPDATED : Friday, 29 November, 2013, 4:10am

While the mainland trust industry has been booming and has become the second-largest financial sector, a global consulting firm warns the current business model is unsustainable.

McKinsey & Company yesterday said up to 88 per cent of the revenue earned by mainland trust companies would be at risk in the long term as the nation relaxes the usage of the trust structure and the capital market becomes more developed.

"China's trust industry has come to a crucial crossroads. It's facing sustainability challenges to those parts of its business that have seen the fastest growth in the past," said Xu Jun, McKinsey's head of China banking and securities practice at McKinsey, which launched the report with China Ping An Trust Company yesterday.

By September, the asset value controlled by the trust industry in the mainland hit a record 10 trillion yuan (HK$12.6 trillion). That is less than that of the banking sector but exceeds insurance and mutual fund industries.

Around 39 per cent of the revenue generated by local trust companies is from the "conduit business", which refers to renting the trust licence to banks and other non-trust institutions that need to use the trust structure to invest or launch investment products.

"This service is likely to vanish in five years," said Xu.

He said that as mainland authorities gradually relax the usage of the trust structure, more financial institutions such as securities companies, funds and banks will be allowed to offer trust services.

Private placement investment banking is another key business for trust companies in the mainland, generating as much as 49 per cent of the total industry revenue, according McKinsey's estimates.

But the competition in this area is expected to become intense in the long run. On the one hand, mainland banks intend to extend more loans to small and medium-sized enterprises as well as other relatively high-risk borrowers, which are current customers for trust companies. On the other hand the capital market, especially that of high-yield or junk bonds, is becoming increasingly developed in China and are likely to take away a bigger slice from the trust market in future.

"But the demand for financing from non-banking channels will be growing steadily in the short to medium run. So we believe that trust companies' private placement investment banking business will still see a 20 per cent growth annually over the next five years," said Fang Xiyuan, associate partner of McKinsey and co-author of the report.