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China opens its doors to global banking firms, but will they be successful?

Policy consistency and predictability are important to international institutions.

China has expedited the opening of its financial sector in the last three years, offering international institutions unprecedented access to investors in the world's most populous nation and one of the world's largest capital markets.

After promising to remove ownership barriers in 2017, the government began to give the green light in 2020 for companies such as Goldman Sachs to operate wholly owned companies on the Chinese mainland for a variety of financial services such as mutual fund management, life insurance, securities and futures broking.

Long-standing initiatives like the Qualified Foreign Institutional Investor (QFII) scheme, as well as developing programs integrating mainland stock and bond markets with those in Hong Kong, have made it easier for foreign institutions to invest in onshore markets. The China Securities and Regulatory Commission (CSRC) permitted another 101 foreign institutions to participate in the domestic capital market under the QFII program from January to November, the largest number ever.

The authorities have also liberalized laws on taxation and earnings repatriation, as well as enlarged the derivatives market and given international investors broader access to assist them hedge their risks. Investors in the QFII program have been able to trade commodity futures, commodity options, and stock index options from November 1, allowing them to trade sectors that were previously inaccessible to them.

Foreign investors' holdings of yuan-denominated financial assets in onshore markets, including as equities, bonds, bank loans, and deposits, have increased as a result of the opening-up policies. According to the most current statistics available from the People's Bank of China, the value of their assets reached 10 trillion yuan ($1.57 trillion) for the first time in May, nearly double the number two years prior, and remained at 10.2 trillion yuan by the end of September.

But opening the door is one thing; the challenge now for foreign institutions is to expand their businesses, increase market share, and increase profits in an environment where regulations, market characteristics, and competition differ significantly from those in more traditional, established markets.

"It's not just about bringing in foreign investors, what is more important is to let them develop smoothly and successfully in China," said an executive working at a foreign-funded financial institution. "If they fail to make it in a few years, they will all leave and there will be a wave of divestment."

Another executive told Caixin that even though foreign investors have more access, what they are increasingly concerned about is the consistency and predictability of policies. The onslaught of regulatory tightening on various sectors including fintech and education over the past year has shaken investor confidence.

Foreign institutions face major hurdles from regulation and a fast changing policy environment, as well as the need to get a deeper understanding of the local market, improve relationships with regulators and intermediaries, and expand distribution channels and brand recognition. Unfair treatment and red tape are also prevalent complaints. New foreign entrants to the asset management and wealth management sectors lack a long track record in the local market to burnish their credentials, and the highly competitive structure of the industry makes it tough to stand out and offer innovative products.

Foreign financial institutions, on the other hand, are well aware of the hurdles, and many have been active on the mainland for years, working through joint ventures to gain a better grasp of the regulatory environment and the market while waiting for the green light to go it alone.

Since the boundaries were eased in 2018, four international banks — Goldman Sachs, UBS, Credit Suisse, and Morgan Stanley — have taken majority holdings in their existing securities joint ventures. JPMorgan Chase, Nomura Holdings, and Daiwa Securities, both Japanese financial heavyweights, and DBS, a Singaporean banking behemoth, have all been permitted to set up completely owned or majority-owned securities businesses. BNP Paribas, SMBC Nikko Securities of Japan, and Standard Chartered of the United Kingdom are all seeking clearance to open securities businesses.

When all of the licences are granted, there will be 11 foreign-controlled securities companies operating on the mainland, in a congested market of over 140 that is dominated by state-owned Citic Securities, Huatai Securities, and Guotai Junan Securities.

Three international asset management firms, BlackRock, Fidelity International, and Neuberger Berman, have received clearance to establish completely owned mutual fund businesses. Van Eck Associates, AllianceBernstein, and Schroders have applied for permission to open their offices. They'll be up against around 130 mutual fund managers, including E Fund Management, China Universal Asset Management, and GF Fund Management, which recorded first-half net profits ranging from 1.3 billion to 1.8 billion yuan. Meanwhile, Allianz, a German insurer, has been given permission to establish a completely owned insurance asset management business.

Joint ventures are still the most common choice in wealth management, with foreign corporations often holding a majority interest. In December 2019, Amundi Asset Management, Europe's largest asset manager, became the first to get majority ownership permission, taking a 55 percent interest in a partnership with Bank of China's wealth management division. It began operations in September 2020 and has since introduced a slew of publicly traded wealth management solutions. Joint ventures exist between BlackRock and Schroders as well.

Regulatory challenges

China's "parental" style of regulation is a challenge for many overseas companies involved in the financial sector. A manager at one foreign-invested brokerage complained that rules and procedures for allowing a company or a product to enter the market are too strict. A foreign institution seeking to raise its holding in its China joint venture to 100% from a 51% stake still needs to go through the same laborious procedures as a minority shareholder applying to increase its stake, he said.

Investment banking is more tightly supervised than in many overseas markets -- the workload involved in helping a company list on the A-share market is more than four times what is required in Hong Kong, one investment banking source said.

Licensed financial institutions are also required to register or get approval for every new product they want to launch, which reduces efficiency and slows down their expansion. "If China continues with this way of regulation, it won't be able to keep up with the rapidly changing market or with increasingly complex demands for financial services from retail and institutional investors, let alone financial innovation," the manager said.

Another management encouraged the government to accept the opinions and judgments of overseas institutions' parent businesses. Many policies, including window guidance, are pushing sheep in the same way, he added. Regulation should not force foreign institutions to expand in one path in China, but many policies, including window guidance, are driving sheep in the same direction.

Different methods for evaluating financial organizations, particularly the use of net assets to determine company strength, are especially troublesome for overseas brokerages. Net assets are included in a regulatory framework by Chinese authorities in order to limit undue leverage in the financial industry and protect investors' interests. The framework is based on a "one size fits all" approach that doesn't take into account the characteristics of foreign capital, according to the manager at the foreign brokerage, which conflicts with the business model institutions typically use in developed markets, which doesn't require as much capital.

Brokers with net assets of more over 2 billion yuan have an easier time getting a better rating under the CSRC's categorization system, which assesses their risk management capabilities. However, international institutions are at a disadvantage because their China operations' net assets are now about 1 billion yuan on average. Some overseas brokers say that the regulatory system ignores their other assets, such as financial services knowledge.

Many international institutions are also concerned about regulatory uncertainty. China's broad regulatory tightening on online platform businesses and the education industry, as well as energy conservation and carbon reduction programs, has alarmed investors and harmed the stock market this year. According to a management of an overseas corporation, foreign investors seek a stable business climate and consistent regulatory rules.

The CSRC acknowledges that improvements are needed, an issue addressed recently by Shen Bing, director of the commission's international cooperation department, at a conference in Beijing in October.

"We are also clearly aware that there is still a big gap between the degree of internationalization of China's capital market and developed markets (overseas)," Shen said in a speech. "In addition to the difference in the degree of openness, more importantly, the provision of regulations is inadequate ... Local regulations and rules are still not fully in line with international best practice, and the completeness, transparency and predictability of the system need to be enhanced."

According to people familiar with the situation, regulators are planning a fresh set of measures to further extend access to the home market in accordance with the government's high-level opening-up agenda.

But, as one executive at a foreign financial institution told Caixin, words must be followed up by action.

"In the past few years, there have been a lot of financial policies regarding foreign investors' access to the Chinese market, many of which responded to long-standing concerns raised by foreign institutions," the executive said. "But most are about decreasing limits, or relaxing of restrictions in some very specific financial business areas. That's not a systemic or institutional high-level opening."

Policies also need specific measures and guidelines to be implemented effectively, he said. "Simply shouting slogans and drawing up big ideas is not enough."

China's unique market environment and characteristics are difficult for many foreign institutions to get to grips with. They also lack the depth and breadth of relationships their domestic rivals enjoy and which are essential for companies involved in investment banking activities such as sponsoring or underwriting stock or bond issuance, and advising on reorganizations and mergers and acquisitions. Domestic brokerages usually build close partnerships with local intermediaries to bring in more clients, and they are also more familiar with the way financial regulators and local governments work, a person working for a Chinese broker said.

Many foreign institutions need to partner with local teams to help with their investment banking business to save time and energy and improve business efficiency, according to a source at a foreign investment bank. The lack of familiarity with the market and the time-consuming process of building local expertise means many foreign institutions need to partner with local teams to help with their investment banking business to save time and energy and to improve business efficiency.

Foreign asset managers selling directly to individual investors face a number of challenges, including a lack of experience in the Chinese market, limited brand recognition, and inadequate sales networks, as well as stiff competition from well-established local companies. They'll also need time to get to know the preferences of Chinese investors.

Growth trumps profit

Sources at several foreign financial institutions told Caixin their group headquarters were prepared to lose money in the first few years after entering China and were focused more on gaining market share. Expanding in China for strategic reasons and the synergy it brings to a company's global operations are more important than making a profit at this stage, one source said.

Despite the difficulties, one of the world's largest asset managers, The Vanguard Group, has decided to abandon ambitions to establish a completely owned mutual fund firm in China in order to focus on building its business through its robo-advisory joint venture with Chinese fintech giant Ant Group. In March, the American fund manager stopped its application for a license, reportedly due to administrative red tape and the process of building the firm on its own in a highly competitive sector where it lacks distribution channels.

Despite the hurdles, many international financial institutions are hopeful and willing to stick it out for the long haul in order to gain market share and expand their operations.

Fidelity International, for example, first set up an office in China in 2004 and set up a technology operation in the country in 2007.

"Then we waited very patiently for the opening-up of the market where foreign players would be allowed entry," Rajeev Mittal, Fidelity International's managing director for Asia-Pacific ex-Japan, told Caixin in a recent interview. "When that time came, we applied for the private fund management qualification and then for the wholly owned mutual fund license."

Having obtained its license in August, Fidelity is now preparing for an on-site inspection by regulators and hopes to launch its first mutual fund some time in 2022.

Getting in front of potential customers is a challenge, and Mittal said the company wants to collaborate with banks and securities firms to increase distribution channels. Online sales channels, such as Ant Group and Tencent Holdings' online platforms, are growing more essential, and Fidelity has formed a small team to better understand them, he added.

Eugene Qian, head of UBS Securities, the Chinese arm of Swiss bank UBS, believes that as local markets grow more internationalized, huge foreign investment banks would have more chances.

"Foreign investment banks entering China are usually large institutions ... that are able to better understand industry leaders, and they also have a comprehensive system for investment banking businesses," he told Caixin. "In these areas, foreign investment banks are more experienced than domestic peers, and they often help mainland companies raise money in other markets such as Hong Kong and New York."


Read also the original story. is the English-language online news portal of Chinese financial and business news media group Caixin. Nikkei has an agreement with the company to exchange articles in English.

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