Across The Border

Fitch warns of over-reliance on wealth management products by smaller Chinese banks

Agency says they present key credit and liquidity risks

PUBLISHED : Wednesday, 07 September, 2016, 2:03pm
UPDATED : Wednesday, 07 September, 2016, 10:54pm

Fitch Ratings is warning that an over-reliance on wealth management products (WMPs) is putting China’s mid-tier banks and smaller financial institutions under increasing credit and liquidity risks.

In a note issued on Tuesday, the agency said that sales growth of WMPs slowed to a two-year low in the first six months of this year, dragged by declining investment returns.

According to the latest figures, issued last week by, which is owned the China Banking Regulatory Commission (CBRC), the outstanding balance of WMPs stood at 26.3 trillion yuan by the end of June, up 11.83 per cent from the beginning of 2016, or 17 per cent of deposits.

In its note, Fitch estimates that among mid-tier banks, however, WMPs were equivalent to 43 per cent of deposits at the end of the first half, up from 41 per cent six months earlier and just 22 per cent at the end of first half in 2014, which “makes them especially vulnerable”.

“These banks are disadvantaged in attracting deposits, compared with the five big state-owned banks, and face added pressure to keep their capital ratios above the regulatory bottom line,” said Jack Yuan, an analyst with Fitch Ratings.

Yuan and his team cited two major reasons why WMPs pose credit risks to banks.

These banks are disadvantaged in attracting deposits, compared with the five big state-owned banks, and face added pressure to keep their capital ratios above the regulatory bottom line
Jack Yuan, an analyst with Fitch Ratings

First, money invested in them has not only gone to traditional asset classes, but has also been channelled increasingly into equity markets and forms of mezzanine financing.

And second, in a bid to protect their reputation, domestic banks tend to draw on their on-balance sheet loss-absorbing buffers to bail out troubled WMPs in the case of significant stress, largely due to implicit guarantee by the Chinese government for principal or yield.

The figures show an average 3,700 WMPs were issued per week in the first six months, but only one issued by a domestic bank reported a loss over that period.

But there were 67 losses reported among WMPs issued by foreign banks, despite their having a much smaller share of the WMP market and lower WMP yields compared to domestic banks.

This compares with 44 and 51 losses reported in 2015 and 2014, suggesting increasing stress on the WMP market.

The Fitch note said the products could trigger liquidity risk, citing the fact their terms are typically very short, and banks are becoming increasingly interwined in that system.

“The value of WMPs issued during the first half was 84 trillion yuan, more than three times their outstanding balance, illustrating their high churn rates.

“At the end of the first half, 15 per cent of bank-issued WMPs were held by other banks, up from 3 per cent at end-2014,” the note said.

In late July, financial news site Caixin reported the CBRC had circulated revised draft rules on WMPs, which included the introduction of stricter requirements for setting aside provisions, restrictions placed on the investment scope for WMPs issued by smaller or less experienced banks, and that lenders with less than 5 billion yuan of net capital or fewer than three years of experience with WMPs can only put proceeds into lower-risk assets, such as government bonds.

But Yuan said even if the new rules are implemented, there is no quick fix to solve the problems facing mid-tier banks.

“Because of the restrictions on lending to unsupported sectors, capital constraints mean there are still incentives for banks to issue WMPs to increase their fee income. Investing in WMPs can also boost overall asset yields,” he said.

“Market participants have proved innovative at working around new regulations in the past.”

Shujin Chen, research director at DBS Vickers Securities, is more positive on the product’s use.

Although smaller banks could face headwinds as a result of the new rules, she said they are being introduced to lower systemic risks and ease shadow banking concerns, and ultimately will be good for H-share listed banks.

“All listed banks should be qualified to carry out ‘comprehensive’ WMP business and be able to put funds into equities and other riskier ‘non-standard debt instruments’ such as quasi-loans,” she said.

“Banning aggressive small regional financial institutions from WMP business will help lower systemic risk and help national banks gain market share.”

Chen said some banks may use trust firms to skirt around restrictions of non-standard debt in future.

“Trust companies are under the CBRC’s supervision, so their investment scope is strictly supervised and fees are higher – this will increase the cost for banks to bypass the regulations.

“All transactions are about the price. If prices increase, banks will be discouraged,” she added.