Optimized Risk Metrics Boost Top Brokers' Balance Sheet Expansion

Due to the superior risk management capabilities of leading securities firms, their balance sheet utilization abilities are strong, which may benefit from the policy dividends of optimized risk control indicators. This could help in further expanding their balance sheets and improving their Return on Equity (ROE). With stronger product specialization capabilities, they can better seize the reform opportunities in the capital market investment segment.

Data statistics show that in 2023, the total operating income and net profit attributable to the parent company of 44 listed securities firms were 508.17 billion yuan and 136.783 billion yuan, respectively, representing year-on-year increases of 1.04% and 0.76%, respectively. Moreover, in 2023, many small and medium-sized securities firms achieved high growth against the low base of their own business performance in 2022. In 2023, the net profit attributable to the parent company of securities firms grew by more than 100%, 50%-100%, 20%-50%, and 0-10%, with 5 firms each in these categories. In contrast, the average net profit growth rates for the parent company in 2022 were all negative and decreased in sequence, at -78.02%, -67.51%, -40.11%, and -13.97%, respectively.

In 2023, the overall profitability of listed securities firms continued to decline, with an overall ROE of 5.56%, lower than the 5.96% level in 2022. In 2023, the decline in profitability in the securities industry was relatively larger. According to the unaudited data from the China Securities Association (on a parent company basis), the average ROE for the entire industry in 2022 and 2023 were 5.31% and 4.8%, respectively.

In the first quarter of 2024, against the high base of the same period in 2023, the performance of listed securities firms was under pressure. In the first quarter, the total operating income and net profit attributable to the parent company of the 44 listed securities firms were 108.284 billion yuan and 31.305 billion yuan, respectively, representing year-on-year decreases of 21.36% and 30.43%, respectively. Looking at it quarter by quarter, from the first to the fourth quarter of 2023, the net profit attributable to the parent company in the securities industry declined quarter by quarter, with the first quarter being the highest point of performance for the year.

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Asset Scale Increased, Capital Expansion Slowed Down

In 2023, the total assets and net assets of listed securities firms increased by 6.7% and 6.6%, respectively, with the pace of industry capital expansion slowing down. As of the end of 2023, the total assets of the 44 listed securities firms amounted to 12.21 trillion yuan, a year-on-year increase of 6.7%; the total net assets amounted to 2.61 trillion yuan, a year-on-year increase of 6.6%. The leverage ratio (excluding client securities trading funds, the same below) was 3.85 times, an increase of 0.11 times compared to the end of 2022.

From a policy perspective, at the beginning of 2023, the China Securities Regulatory Commission (CSRC) advocated that securities firms must focus on their main responsibilities and businesses, adhere to prudent operations, and take a new path of capital conservation and high-quality development. After the Political Bureau meeting in July 2023, the regulator proposed a pre-communication mechanism for refinancing of listed financial companies, guiding listed companies to reasonably determine the scale of refinancing. Under the above regulatory guidance, since 2023, the pace of capital expansion in the securities industry has slowed down. In 2023, among the 44 listed securities firms, only Guohai Securities obtained CSRC approval and implemented refinancing, raising 3.192 billion yuan.

In 2023, the increase in the amount of securities sold and repurchase assets, and the short-term financing bills payable by listed securities firms was significant. Securities firms mainly expanded leverage through selling repurchase financial assets and issuing short-term financing bills. According to the disclosed annual report data, in 2023, the scale of listed securities firms' sales of repurchase financial assets and payable short-term financing bills increased by 15.42% and 45.15%, respectively. Payables and bonds payable increased by 6.52% and 5.25% year-on-year, respectively, which is relatively lower compared to the growth of net asset scale.

Looking at the debt structure, in 2023, the proportions of listed securities firms' liabilities in the form of sales of repurchase financial assets, client securities trading funds, bonds payable, payables, and short-term financing bills were 25.21%, 22.33%, 21.53%, 8.61%, and 6.09%, respectively.

In 2023, the scale of customer margin funds of listed securities firms decreased by 6.5%, and the proportion of customer margin funds in total assets slightly decreased. The proportion of financial investment assets in total assets was about 52%. Looking at the structure of securities firms' assets, the main use of assets was in financial investment assets and credit assets. In 2023, the proportions of financial investment assets, credit assets, and customer margin funds in the total assets of listed securities firms were 51.59%, 15.08%, and 17.06%, respectively.In the first quarter of 2024, the pace of capital expansion of listed securities firms continued to slow down. As of the end of the first quarter, the total assets of listed securities firms amounted to 12.35 trillion yuan, an increase of 1.14% compared to the end of 2023; the net assets were 2.66 trillion yuan, an increase of 1.93% compared to the end of 2023; and the leverage ratio was 3.81 times, a decrease of 0.04 times compared to the end of 2023.

As of the end of the first quarter, the capital expansion of listed securities firms remained slow. Against the backdrop of a reduction in the outstanding scale of short-term financing bills compared to the end of 2023, listed securities firms continued to increase the sale of repurchase financial assets to maintain leverage levels. The proportion of the sale of repurchase financial assets in liabilities increased to 27.21% at the end of the first quarter, while the proportion of short-term financing bills payable in liabilities slightly decreased to 5.01%. In terms of asset utilization, the proportion of credit assets in total assets decreased to 13.92%, and the proportion of financial investment assets in total assets decreased to 49.04%.

Risk Control Indicators Relaxed, Capital Space Opens Up

In 2023, the risk control indicators of listed securities firms were within the regulatory standards, with top-tier securities firms facing greater risk control pressures. Looking at specific risk control indicators, in 2023, the various risk indicators of listed securities firms were still within the reasonable range required by regulatory standards. Among them, the average risk coverage ratio of listed securities firms was 263.27%, 2.63 times the regulatory standard, an increase of 1.02 percentage points compared to 2022; the average capital leverage ratio was 20.96%, 2.62 times the regulatory standard, a decrease of 1.46 percentage points compared to 2022.

In terms of liquidity-related indicators, the average liquidity coverage ratio of listed securities firms was 307.18%, 3.07 times the regulatory standard, a decrease of 42.21 percentage points compared to 2022; the average net stable funding ratio was 161.18%, 1.61 times the regulatory standard, a decrease of 3.75% compared to 2022.

When classified by the size of securities firms, looking at the distribution of various risk control indicators, the pressure on risk control indicators for top-tier, medium to large, and medium to small securities firms decreases in turn. The risk control indicators of top-tier securities firms show that they bear greater risk management pressure, while the risk management indicators of medium to large and medium to small securities firms have less pressure.

On one hand, from net assets to net capital conversion, due to reasons such as a wider layout of subsidiaries and greater consumption of net assets by derivatives development, the discount intensity is greater for top-tier, medium to large, and medium to small securities firms. The average net capital/ net assets ratio for top-tier, medium to large, and medium to small securities firms are 67.47%, 69.56%, and 74.68%, respectively, increasing in turn. Under the risk control indicator system centered on net capital, top-tier securities firms will bear greater risk control pressure. In 2023, the average net stable funding ratio of top-tier securities firms was 133.75%, 13.75 percentage points away from the warning threshold of 120%, while the average net stable funding ratios for medium to large and medium to small securities firms were 147.06% and 163.68%, respectively.

In addition, the risk buffer space for other key indicators of top-tier securities firms, such as risk coverage ratio, capital leverage ratio, and liquidity coverage ratio, is smaller than that of medium to large and medium to small securities firms. However, compared to the warning standards, there is still a significant risk buffer space.

Nevertheless, risk control indicators are about to be revised. In November 2023, the China Securities Regulatory Commission (CSRC) publicly solicited opinions on the "Securities Company Risk Control Indicator Calculation Standards Regulation (Revised Draft)". In April 2024, the ninth meeting of the Standing Committee of the People's Congress mentioned again the need to study and revise the regulations on the calculation standards of securities company risk control indicators, which will help expand the capital space for high-quality securities companies.

Looking at the revision orientation of the solicited opinions, the revision of risk control indicators has improved the scientific, effective, and guiding nature of risk control indicators. From the core risk control indicators, adjustments are made to the risk capital preparation adjustment coefficient and the on- and off-balance sheet asset total conversion coefficient for securities companies that have been rated at the forefront for three consecutive years, strengthening classified supervision and expanding the capital space for high-quality securities firms. It is proposed to reduce the risk capital calculation coefficient for high-quality securities firms. The conversion coefficients for securities firms rated AA or above (including) and A-level for three consecutive years will be reduced from 0.5 and 0.7 to 0.4 and 0.6, respectively, correspondingly increasing the risk coverage ratio indicators by approximately 25% and 16.67%, respectively. In addition, with the recognition of the CSRC, pilot programs can be adopted to use advanced risk measurement methods such as internal model methods to calculate risk capital preparation.For securities firms with an AA rating for three consecutive years and those with an A rating, the denominator "total on- and off-balance sheet assets" conversion factor is adjusted from 1 to 0.7 and 0.9, respectively, which correspondingly increases the capital leverage ratio by 42.85% and 11.11%. The adjustment of the net stable funding ratio lowers the calculation standard for the denominator "required stable funding". Securities firms with an AA rating or above for three consecutive years (inclusive), recognized as the "white list", can pilot the use of advanced risk measurement methods such as internal models to calculate risk capital provisions, with the approval of the China Securities Regulatory Commission (CSRC).

The relaxation of these core risk control indicators for high-quality securities firms will help to open up capital space, improve the efficiency of capital usage and investment banking service capabilities, thereby enhancing the capacity of securities firms to serve the real economy and wealth management for residents. This is conducive to maintaining the stability and development of the financial market.

In terms of business orientation, the draft for comments reflects the guidance of strengthening capital constraints and strict regulation on key businesses to ensure that systemic risks do not occur. It appropriately raises the measurement standards for over-the-counter derivatives, encourages securities firms to play a role in wealth management and liquidity provision, and revitalizes the capital market. It optimizes and improves the calculation standards for risk control indicators for securities firms engaged in market-making, asset management, and participation in public REITs.

Regarding risk control indicators related to market-making business, the market risk capital provisions for financial assets and derivatives held in market-making accounts are calculated at 90% of the respective calculation standards. In terms of risk control indicators related to asset management business, the specific risk capital provisions for single and collective asset management plans investing in standardized assets are adjusted from 0.3% and 0.5% to 0.1%. This move is beneficial for promoting the development of securities firms' market-making business and enhancing the trading activity of the securities market. The reduction of the conversion factor for actively managed types of securities firm asset management is conducive to advancing the active management process of securities firm asset management and enhancing the role of wealth management functions.

Leading securities firms with superior risk management capabilities and strong balance sheet utilization may benefit from the policy dividends of optimized risk control indicators. This helps them further expand their balance sheets, which in turn helps to improve the return on equity (ROE). With stronger product specialization capabilities, they can better seize the reform opportunities in the capital market investment end. According to calculations by Caixin Securities based on 2023 data, assuming that the leverage level of leading securities firms increases by one unit, the ROE level is expected to increase by about 1.6%.