The five-year slump in China's domestic stock market saw many of the country's securities dip into the red. However, as some players wash out of the game, others are given more opportunities for growth.

The year 2005 is likely to witness a widened gap between securities firms, with more poor performers washing out of the market, analysts say.

"The securities industry has been going through structural reforms in the past two years," said Wu Xiaoqiu, director of the financial and securities research center of Renmin University of China.

"In a bearish market such as the one China is experiencing, there are bigger opportunities to see survival-of-the-fittest."

His view was echoed by securities brokerage officials.

"The gap (between good and poor brokerages) will accelerate this year," said Huang Wangda, an executive with the GF Securities Co Ltd.

With foreign investors showing increasing interest in China's financial sector, domestic securities brokerages are under increasing pressure to expand and secure more market share before foreign players make any significant strides, Huang warned.

"Foreign investors will first take a minority stake, but their final goal is to control the brokerages," he added. "However, except the Central Investment Co Ltd, China has very few internationally competitive brokerages."

Currently, foreign investors show less interest in China's securities brokerages, and their investment are mainly in the fund management joint ventures, said Fan Zhentong, an executive with the Everbright Securities.

However, he said China's securities brokerages still urgently need to increase their competitiveness.

Everbright Securities is applying to the China Securities Regulatory Commission (CSRC), the industry watchdog, to build more sales networks and expand businesses overseas in Hong Kong and some developed countries, according to a senior company executive, who declined to give his name.

Meanwhile, the company is restructuring its shareholding structure and preparing to be listed in 2007, the anonymous executive said.

"The restructuring is nearing its final stage, but we have not decided on the destination of the listing."

Meanwhile, the company is looking for merger and acquisition opportunities, he said.

"It (merger and acquisition) is becoming a trend in China's securities market," said Fan.

Last year, CITIC Securities intended - but failed - to buy into the smaller GF Securities.

Wu said that China's brokerages have to go through two stages. During the first stage of domestic mergers and acquisitions, 30-40 players will be washed out by the end of this year.

And during the second stage with the participation of international competitors, 20-30 more will disappear.

"Finally, China will have three to five players which can compete internationally, and another 40 to 50 focused on domestic market," Wu said.

He added although the number of players will be reduced in China, their overall competitiveness will increase.

In his opinion, an urgent task for China is to develop a group of securities brokerages with good risk control and management teams who know the international market well.

And the CSRC has already been doing so since early last year when it worked out plans to categorize the country's 130 securities brokerages. Since then, it has stepped up efforts to close down some unqualified players and give more opportunities to top performers.

Regulator acts

On January 20, the CSRC announced that it had filed legal cases against eight securities brokerages: D'Hong Securities, China Fortune Securities, Hengxin Securities, MF Securities, China Southern Securities, Yunnan Securities, Hantang Securities and Liaoning Securities.

The regulator said it either ordered administrative takeovers, takeovers by the country's asset management firms, or invalidated the brokerages' trading licences last year, as these firms were reportedly found to be trading illegally, financial disorder or giving faulty accounting information.

The move underlined the CSRC's position that any person found responsible for a charge or accounting firms that are found negligent of their duties will receive severe punishment.

Under a five-year-long bearish stock market, China's securities brokerages suffered enormously and problems have become more visible.

Last Wednesday, the Hongyuan Securities Co Ltd forecasted a total loss of 580 million yuan (US$70 million) for the fiscal year 2004.

The huge loss was partly due to China's new accounting system which requires securities brokerages to report the future losses caused by drops in the prices of the assets they manage.

The new accounting system also requires the brokerages to include its interest reserves to be paid to the clients who joined their money management programmes.

Those two items combined are expected to reach 422 million yuan (US$51 million) for Hongyuan. The remaining 158 million yuan (US$19 million) losses are the company's actual business operations last year.

Of the 57 listed securities brokerages which had released their 2004 annual reports by the end of January, one-third were in the red.

Combined, their losses amounted to 680 million yuan (US$82 million).

Many barely managed to stay in the black.

Insiders, however, say reports were manipulated and actual losses may be bigger.

It is the fourth consecutive year that China's securities industry has been in red.

The long market slump is the major reason, analysts said.

The stock market has shed about 40 percent since its last peak in 2001.

"The investment sentiment is historically low and trading turnovers are decreasing," said Qiu Zhaoxiang, director of the financial research centre of the University of International Business and Economics.

The bearish market triggered an industry-wide crisis for the securities brokerages. On the one hand, there is little opportunity for the securities brokerages to make a profit in stock trading. On the other hand, it becomes increasingly difficult for them to finance their further growth plans.

"China's capital market is underdeveloped and direct financing accounts for only about 15 percent," said Qiu.

"Many of China's brokerages are of small scale and with very low level of risk management."

Under such circumstances, the CSRC had to close down some of the poor performers, especially those who were involved in illegal trading.

The ongoing crack-down on illegal trading goes hand-in-hand with a slew of new regulations from the CSRC to step up its efforts to improve the overall competitiveness of China's securities industry.

The most prominent one was also released on January 20, which demanded all the existing brokerages to meet five standards in internal risk control by the end of this year.

Strong gets stronger

However, the authority is not only closing down the bad performers, it has also been rewarding good ones by encouraging them to innovate and broaden profit channels.

According to the CSRC's new policy, securities brokerages that meet the CSRC's standards on asset quality, financial performance, business operation, risk management, following the rules, and honesty and discipline will be given priority to issue corporate bonds, issue additional shares or list.

They will also be given more opportunities to set up new sales networks, launch collective asset management schemes, and enhance their investment banking business, and help manage the country's social security fund and Chinese companies' supplementary pension funds.

To date, 11 brokerage houses have been honoured as the pilot firms to launch innovative projects.

About 20 more brokerages are applying, sources close to the CSRC said.

The watchdog has given approval to four securities brokerages, including the GF Securities, CITIC Securities, South China Securities and Everbright Securities, to launch their collective asset management schemes.

And the Guotai Jun'an Securities has been given the green light to issue short-term bonds in China's inter-bank bond market, becoming the country's first securities brokerage to issue such bonds.

That will greatly widen Guotai Jun'an's financing channels, analysts said.

And for Everbright Securities, the new collective asset management scheme will become its new profit point, said Fan.

The company has assigned a team of five core members to develop the new business, which was launched on March 9 and is receiving satisfactory buying enthusiasm from the investors, Fan said.

"We plan to collect 2 billion yuan (US$242 million) and we are full of confidence."

He added: "As our traditional business is shrinking, we must look for other sources of revenue."

He said Everbright is applying to launch more new and innovative products that will provide new financing channels and increase short-term liquidity, although the company currently has no difficulties financing further growth.

As for GF Securities, it collected 9,000 yuan (US$1,087) less than its scheduled 1 billion yuan (US$121 million).

Still, "that's a fairly good result," said Huang, who is a core member of the project's management team.

"Most of the investors are mutual funds and bank depositors, and are our new customers."

He attributed the investor enthusiasm to the product's comparatively fixed returns and low risk.

"The risk is controllable and we offer an average annual return of 4-6 percent with maturity in two years, much higher return than the five-year treasury bond," Huang said.

GF Securities is preparing to launch more innovations, either in its investment banking system, asset management or securitization.

"We have applied to take part in securitization projects, but have not received the approval," Huang said.

But he is very optimistic that the company will be given the nod.

Although the fate of China's securities brokerages are still uncertain, largely depending on the performance of the stock market, which shows no clear direction, the worst is over, said Wu.

"It cannot be worse this year than the last."

(China Daily April 11, 2005)