Internet finance

China economy

China’s battle to curb fraud at internet lenders

PUBLISHED : Thursday, 07 January, 2016, 4:21pm
UPDATED : Monday, 30 May, 2016, 5:09pm

Zhou Qinye thanks the stock market – which had shown signs of recovery late last year after the summer’s turmoil – for saving her from big losses on her investment in the financial firm Ezubo.

It was one of China’s largest online peer-to-peer lenders until it was pounced on by the authorities on December 8 for alleged illegal operations.

The probe into the company over its fund raising activities comes as part of the central government’s moves to improve scrutiny of risk in financial investments.

READ MORE: Funds frozen in China P2P cleanup

Zhou, a property professional from Shanghai, was persuaded by a friend who worked for Ezubo to put in cash and invested more than 200,000 yuan (HK$240,000) in its products.

Like many Chinese investors, she was attracted by promises of high returns from the firm’s wealth management products, but had little knowledge of how and where the company used the funds.

“I felt uneasy because the rates of return Ezubo promised – nine to 13 per cent – seemed too high and unrealistic in the sluggish economy. When the stock market rebounded slightly in early October, I withdrew half my investment,” she said.

Zhou also bought a three-month wealth management product from Ezubo for 20,000 yuan that included stock investment consultations from the online lender, but the money cannot be withdrawn before maturity.

She finally withdrew all her investment from the P2P platform, except the three-month product, just days before the investigation into the company was announced on December 8.

The authorities in several cities including Beijing and Shanghai seized the assets of Ezubo, which had amassed 73 billion yuan from 4.9 million investors.

“It was a narrow escape for me, but I don’t hold out hope of seeing my 20,000 yuan again,” said Zhou. The friend who worked for the company lost 160,000 yuan as well as his job.

The Ezubo case is just one of many investment wrangles in the country’s internet finance sector following years of unregulated development.

The central government is becoming highly alert to lurking financial risk, especially after last summer’s unprecedented stock market routs when regulators were harshly criticised for their clumsy responses to the widespread crisis.

The elite of the Communist Party wrapped up their annual central economic work conference in the middle of last month with calls for stricter financial regulation to curb rampant illegal fundraising activities.

President Xi Jinping underscored the urgency of preventing systemic and regional risk in the coming year which was regarded by observers as “a battle we must not lose”.

Not many online lenders do a better job controlling risk as long as investors ignore potential downsides, but only care about high returns
Xu Yong, lawyer

Xiang Songzuo, an economist at Agricultural Bank of China, told a recent forum that high liabilities and overcapacity in manufacturing, a massive stock of unsold homes and rampant but unregulated private lending all exposed the financial system to greater risk.

He warned that the country would be vulnerable to severe and frequent financial crises arising as long as the desire persisted to make quick money from internet investment instead of focusing on developing advanced technology.

Days after Ezubo’s fall from grace, another online finance company, Dada Group, announced it had halted operations while it was probed for alleged illicit business.

According to industry data provider, 106 online P2P lenders absconded, suspended business, suffered liquidity problems or were subject to investigations in December, rising from the 79 problematic P2P lenders reported in November. The figure was 47 in October.

“You want their returns, but they want your principal” has became a popular refrain in the wake of the default crises of online P2P firms.

Guo Tianyong, a professor at the Central University of Finance and Economics, said the absence of regulation was a major reason for this year’s market disorder and further massive fallout could spark an investor panic, which could endanger financial stability.

Regulation must be improved and a stronger notion of risk instilled in investors, Guo said.

Beijing lawyer Xu Yong said the best professional advice that could be given to investors was how to judge whether a P2P company was reliable or a fraud.

READ MORE: China sets rules for online lenders as it vows to cleanse the market

“Illegal fund raising is very common in the sector and most of the funds cannot find, nor are connected with, specific investment projects,” Xu said. “Not many online lenders do a better job controlling risk as long as investors ignore potential downsides, but only care about high returns.”

Yucheng International Holdings Group, the parent company of Ezubo, built up its fortune in Bengbu, a third-tier city in Anhui province, which makes market observers like Xu suspect that it lacked the ability to generate quick and high returns due to a shortage of good investment projects.

“It attracted funds from new investors to repay old ones. It was a Ponzi scheme,” said Xu.

After Christmas, the banking watchdogs made a long-awaited move – a public consultation on a draft regulation to rein in online lenders.

Under the draft, P2P firms are defined as middlemen who serve fund borrowers and lenders, thus are banned from raising or lending on their own and are not allowed to sell wealth management products, insurance and trust products.

For Zhou, the 20,000 yuan she has most probably lost did least teach her to invest more cautiously in products with lower but more stable returns.

“Private lending is not reliable. We must bear in mind that high returns are set to come with high risks,” she said.