Update | Moody’s warns of market risks in margin finance by Chinese securities firms
Ratings agency Moody’s warned on Thursday that margin financing poses market and credit risks to securities firms and may cause further losses in mainland China’s equity markets.
“The rapid growth in margin financing, which peaked at 4.3 per cent of the A-share tradable market cap on 18 June 2015, has in the current market downturn exposed securities firms to substantial market and credit risks, even as the business generated interest income and boosted profitability," says David Yin, an assistant vice-president and analyst of Moody’s.
The Shanghai Composite Index dropped by 32 per cent and the ChiNext Index by 39 per cent between June 12 when equities scaled 7-year highs and July 8, 2015, but Moody’s notes that no Chinese securities firms have yet reported significant losses as collateral requirements could support a market fall of more than 40 per cent.
Moody’s warned though of a rise in downside risks for Chinese brokerage firms as a further drop in shares would aggravate losses among the most aggressive market participants. In addition, the agency said 900 billion yuan (HK$1.139 trillion) of margin loans were extended between March and May 2015.
“Accordingly, if the index resumes its descent from current levels, a large proportion of these margin loans will require further collateral replenishment, although some of these borrowers may have already been required to top up their margins during the market correction,” Yin said.
“Second, in their attempt to stabilise the market, the authorities have unveiled multiple policies in recent weeks. Some of these measures, for example the amended regulation on margin financing business that removes the compulsory liquidation requirement on margin accounts, loosen risk controls on the business and have a direct negative impact on securities firms’ credit profiles.”
Hong Kong Securities Association chairman Jeffrey Chan Lap-tak said Chinese brokerage firms would also be hard hit by lower market turnover.
Shanghai stock market turnover stood at 680 billion yuan on Wednesday, down 48 per cent from its peak on June 8 at 1.312 trillion yuan while Shenzhen turnover stood at 604.42 billion yuan on Wednesday, down 50 per cent from its peak on May 28 at 1.205 trillion.
“When turnover is down, so is the commission income earned by the stockbrokers. This would be challenging,” Chan said.
Shares of Hong Kong-listed mainland brokers Guolian Securities, GF Finance Securities, Hau Tai Securities, Haitong Securities, and China Galaxy Securities saw heavy selling earlier this month, with some dropping between 9 and 31 per cent.
Moody’s expects Beijing would support securities firms, with the People’s Bank of China saying it would provide liquidity to China Securities Finance Corporation, the margin finance organisation, in a bid to prop up the stock market.
Furthermore, China’s regulators also increased scrutiny on brokerage firms’ capital management and relaxed rule for them to issue bond to raise funds. Chinese securities firms raised 198 billion yuan in new equity in the first half of this year.
"We believe these developments have strengthened their liquidity and capital positions to meet the current challenges," says Yin.
