China’s Shadow Bankers Seek Their Place in the Sun

September 17, 2013, 11:30 AM

China’s Shadow Bankers Seek Their Place in the Sun

China’s trust companies are feeling hurt and unloved. If you ask them, they’ll tell you their hard work has been a little misunderstood. “People say the trust firms are the ‘bad boys’ of the financial sector. I think it’s a misunderstanding,” said Li Zhenhua, secretary general of the China Wealth Management 50 Forum, a financial industry group. “There have been rarely any material defaults and we’ve been offering high returns with close-to-zero risk,” Mr. Li told a briefing on the trust sector’s track record this year.The regulators have a love-hate relationship with the nation’s trust firms, which operate in what is often called the shadow- banking sector – the grey area that exists alongside the traditional banking system.

Wealth-management products assembled by the trusts generally help with the overall goal of liberalizing China’s interest rates – and for regulators, that is a plus.

By operating outside the banking sector, trusts avoid the central bank’s restrictions on interest rates on deposits. That helps consumers get a bit more of a return on their money than they would from traditional deposits at the banks.

And it allows the central bank to achieve this goal without having to make banks adjust to higher deposit rates across the board.

But the regulators are wary of a number of things about the trusts – particularly that banks use them to skirt lending curbs and shift credit toward riskier customers that might not be able to borrow from a bank. They don’t like the fact that much of the money goes into real estate – which the government sees as still too speculative – and to industries that are struggling with overcapacity – like steel.
And they certainly don’t like the off-balance-sheet transactions that can hide financial problems — until they suddenly appear and give banks and regulators a nasty financial surprise.

But the trust sector’s growth makes it a force to be reckoned with.

China’s total outstanding trust products, which came to 9.45 trillion yuan ($1.54 trillion) at the end of June, are expected to top 10 trillion this year, the China Wealth Management 50 Forum said in a report released Saturday.

The trust sector, the second-largest source of credit in China’s economy after bank lending, will continue to expand at a steady pace, driven by solid corporate demand for funds and the rising expectations of individuals looking for better returns on their money, trust-company executives say.

“Just look at the numbers we put out you’ll know that how much the trust sector has contributed to the economy by meeting the demands for funds,” said Lin Jing, president of China Industrial International Trust Ltd.
But even the trust sector concedes that it may have to adjust – if not mend – its ways.

Investment in property and government-led infrastructure had fetched an annual return of 11%-12% in recent years but that slipped to about 9% last year, trust executives said.

Faced with slowing growth in returns in property, trust companies will be diversifying, said Guo Jiping, vice president of the Huarong International Trust Trust Co., Ltd.

Huang Lijun, assistant president of Chang’an International Trust Co. Ltd., agreed, saying that the company is eyeing opportunities in emerging industries, such as medical care and care for the elderly as well as environmental protection.

The trust firms are looking to play a role in mergers and acquisitions in industries that need to restructure. And there may be some new opportunities in an area they are familiar with – property development – if the government lets farmers sell their land rights more easily, according to Mr. Huang.

Still, not everyone thinks the “bad boys” of the financial sector are changing their ways soon enough.

Analysts say that banks are facing a rising exposure to trusts. The trust exposures of the eight Chinese banks that are listed in Hong Kong went from 6% of their equity base at the end of 2012 to 12% at the end of the second quarter of this year, Bernstein analyst Mike Werner said in a research note.

“The banks are under-provisioning for these exposures. We expect their credit losses will rise in the coming years,” Mr. Werner said.

About bambooinnovator
Kee Koon Boon (“KB”) is the co-founder and director of HERO Investment Management which provides specialized fund management and investment advisory services to the ARCHEA Asia HERO Innovators Fund (, the only Asian SMID-cap tech-focused fund in the industry. KB is an internationally featured investor rooted in the principles of value investing for over a decade as a fund manager and analyst in the Asian capital markets who started his career at a boutique hedge fund in Singapore where he was with the firm since 2002 and was also part of the core investment committee in significantly outperforming the index in the 10-year-plus-old flagship Asian fund. He was also the portfolio manager for Asia-Pacific equities at Korea’s largest mutual fund company. Prior to setting up the H.E.R.O. Innovators Fund, KB was the Chief Investment Officer & CEO of a Singapore Registered Fund Management Company (RFMC) where he is responsible for listed Asian equity investments. KB had taught accounting at the Singapore Management University (SMU) as a faculty member and also pioneered the 15-week course on Accounting Fraud in Asia as an official module at SMU. KB remains grateful and honored to be invited by Singapore’s financial regulator Monetary Authority of Singapore (MAS) to present to their top management team about implementing a world’s first fact-based forward-looking fraud detection framework to bring about benefits for the capital markets in Singapore and for the public and investment community. KB also served the community in sharing his insights in writing articles about value investing and corporate governance in the media that include Business Times, Straits Times, Jakarta Post, Manual of Ideas, Investopedia, TedXWallStreet. He had also presented in top investment, banking and finance conferences in America, Italy, Sydney, Cape Town, HK, China. He has trained CEOs, entrepreneurs, CFOs, management executives in business strategy & business model innovation in Singapore, HK and China.

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