China is considering rules to restrict investments by small banks in the country's $3.5 trillion wealth management product industry, draft rules seen by Reuters show, as concerns rise they are taking increasing risks.
Draft rules from the China Banking Regulatory Commission ("CBRC"), seen by Reuters on Wednesday, 27 July, target riskier assets most often packaged into high-yielding wealth management products ("WMPs") by smaller banks and financial institutions.
As the economy has slowed, smaller banks with less access to top-tier creditworthy borrowers have increasingly dabbled in creating, packaging and repackaging exotic assets for sale to retail investors, who assume they are tacitly guaranteed by the government.
The measures include a proposed cap on WMP exposure to stocks, considered by the regulator as a "non-standard asset," and a potential freeze on the issue of structured WMPs offering a tier of interest rates for different risk levels and payouts.
The CBRC did not respond to calls or faxes seeking comment.
China wants funds steered towards more productive parts of the economy but authorities are worried too much money is instead ending up in speculative or risky investments, such as in real estate, volatile small-cap stocks and high-yield loans offered to high-risk borrowers.
Chinese authorities have taken various measures in recent years to try to control the growth of China's wealth management products and the latest moves come as officials worry about the growing tide of debt in an economy where GDP has slipped to a 25 year low.
Domestic media reports describing the rules were partly blamed for a slide in benchmark stock indexes of as much as 3 percent. China's securities regulator has been struggling to restore confidence in its stock markets since a massive crash in 2015.
David Qu, ANZ markets economist in Shanghai, said that the stock slide may have been an overreaction.
"The amount of WMP investment by banks into the stock markets isn't very high," he said. "By the end of 2015, it hadn't reached 8 percent."
Still, Qu predicted the new regulations would prompt wealth managers at these smaller banks to reallocate out of stocks and into bonds.
In addition to capping stock investment, the rules could halt issuance of structured products that offer different rates of return. Some WMPs offer extraordinary market beating returns, sometimes as high as 30 percent.
The structured products are similar to the collateralised debt obligations blamed by some for sparking the global financial crisis in 2008.
Regulators and economists worry their state backing has led loan officers to take on unsustainable levels of risk just to get more assets on board.
"At the end of 2015, the non-standard assets and equities took over 23 percent of the outstanding WMP in combination," Qu wrote in a research note.
"Though the investors are the final risk takers of the WMP, it is viewed as risk-free investments, with the belief that banks will be bailed out in risk cases to avoid reputation risk."