Is China’s wealth management business a booming profit volcano for investors, or just another smoke-and-mirrors pyramid scheme?
It’s a question dividing the nation’s bankers and banking regulators as investors of all kinds pour cash into bank-sponsored wealth management products.
The amount of money managed by China’s banks for wealth management clients climbed to a combined six trillion yuan in June, up from just 1.7 trillion yuan at the end of 2009, data from the banking regulator shows.
Attractive yields in recent years often topped average returns for equity and property investments alike in China—attracting an increasing number of investors to wealth management plans.
And banks have eagerly promoted the products as alternatives to savings accounts, not only to benefit clients but for the good of their own bottom line. Regulators say banks need not set aside reserves to hedge against potential wealth product defaults, so any money a bank shifts to a wealth plan from a standard deposit account can reduce its reserve mandate.
Despite these and other moneymaking attractions, China’s wealth management sector has been a magnet for controversy. Debates have raged for years over risk control and regulatory supervision, for example, as well as the sector’s nuts-and-bolts investment framework.
The controversy intensified recently when Bank of China Chairman Xiao Gang and Su Xinmin, director of the China Banking Regulatory Commission’s Innovation and Regulation Department, publicly clashed over the integrity of the wealth management business.
Xiao, whose state-owned bank is the country’s fourth largest in terms of assets, called the pooling of investor capital through wealth plans an example of “shadow banking” and “to some extent ... fundamentally a Ponzi scheme.” His remarks appeared in a commentary published October 12 in the English-language China Daily newspaper.
Comparing the wealth management network to a game of musical chairs, Xiao warned that “the music may stop when investors lose confidence and reduce their buying or withdraw from” wealth management investing, which “could weigh heavily” on banks and undermine investor confidence.
Xiao was especially critical of wealth product sponsors who offer high yields for short-term investments, some of which mature merely in a matter of weeks. Such bets often point to a dangerous mismatch between investments and the long-term projects they finance, he wrote.
In some cases, Xiao charged, money raised by selling new wealth products is simply transferred to pay off maturing plans.
But Su argued against Xiao’s charges, saying risks associated with capital pools have largely been overstated. Su pointed to CBRC’s active supervision of the wealth product industry, which he insisted is not a Ponzi scheme.
Last year, Su said, CBRC sought to ease risks by telling banks to closely examine their wealth management businesses and separately review each product’s financial performance.
The regulator also told the nation’s banks to update their financial information management systems, Su said, so they can more accurately monitor each wealth product.
CBRC’s moves appear to have had the desired effect as most wealth management products now “correspond to an investment portfolio rather than a capital pool,” Su said. And any banks whose products don’t correspond are being encouraged to take extra precautions to prevent defaults.
”Regulators are against the practice of investing multiple products into a capital pool or a portfolio,” Su said. “With separate accounts, it would be impossible to track each product’s investment returns. This violates the principle of managing clients’ money on their behalf.”
In addition, he said, CBRC regularly inspects wealth management businesses and requires external audits.
Moreover, banks are keen to protect wealth management investors for the sake of their reputations. Su said every bank has a strong incentive to act prudently with wealth products to protect its public image and, thus, keep customers.
Walling Off Risk
About one-fourth of all wealth product cash goes into credit financing for economic development projects, Su said. Another 60 percent is invested in bonds or money market instruments, or deposited in other banks. Equity investments get another 10 percent of the cash.
Only 1.2 percent, or about 1.5 trillion yuan, of all Chinese bank assets have been funneled from wealth plans into projects that Xiao and other critics say are among the riskiest, according to Su.
Still, regulators recognize the importance of and threats to risk control. They want to protect investors as well as banks.
One potential threat, Su said, is linked to the fact that banks rarely publicize overall return rates on investments made with money raised through wealth product schemes. Indeed, the yields are publicized for less than 30 percent of all bank-marketed wealth plans.
Even though “one of the most important issues in bank wealth management is investor education,” Su said, investors can be left in the dark when a bank refuses to disclose investment-related information in a timely manner.
To smooth the investment landscape, CBRC officials have started working on several proposed policies designed to streamline investor access to bank data. For example, banks may be required to rank wealth management products according to risk before offering them to clients, giving each investor a chance to make decisions based on his or her risk appetite.
CBRC officials are also mulling whether to introduce new risk-control rules, Su said, such as a possible ban on product rollovers. They’re also talking about toughening wealth management audits and requiring routine assessments of product value and liquidity risk.
Meanwhile, CBRC continues to impose restrictions designed to keep wealth management money from flowing into real estate speculation, or companies in industries that the central government wants to closely control in order to cut smokestack emissions, for example, or prevent factory overcapacity.
Less than 50 billion yuan raised through wealth plans over the years has been channeled into the property sector, Su said, and that amount is expected to shrink.
Investments in government-restricted industries are also falling, he said, while only a small amount of money has gone toward buying bonds issued by local government financing platforms.
CBRC is also sensitive to the banks’ tendency to promote wealth products as a way around deposit reserve requirements. For that reason, Su said, regulators encourage banks to promote wealth management in ways that benefit the economy.