Citic Haitong

Chinese brokers flock to capital markets

China’s brokers are rapidly raising capital for margin financing but analysts warn of dilution and regulatory scrutiny.

Citic Securities’ $4.5 billion and Haitong Securities’ $3.9 billion share placements underscore Chinese brokers’ growing need for capital to finance their rapidly expanding margin lending businesses.

However, investors should not be too optimistic in the stocks from a short-term perspective as the stock sales will dilute shareholders. In a longer term, the companies could improve the profits if they leverage the proceeds for margin financing and securities lending, said analysts. 

The share placements come amid growing bullishness among investors that mainland brokers can profit from the opening up of China's capital markets and a rally in the A-shares. Citic Securities is planning to place up to 1.5 billion new H-shares to less than 10 investors, following Haitong Securities, which has just completed its share placement to 7 investors.

Following the fundraisings, the return-on-equity ratios of the two largest Chinese brokers could decline by around 200bp-240bp and 125bp-200bp in 2015, respectively, according to estimates from three analysts.

Earnings per share will decrease 0.8% to 3%, although the sale removes overhang on equity-raising, according to the same three analysts.

Citic will use about 70% of the proceeds to develop capital-intensive operations including margin finance and securities lending, while Haitong will use 60% for developing the margin financing and securities lending business, 15% for the stock repo trading and equity pledged financing business, according to the companies’ statements.

Margin financing, in which investors borrow money from brokers to buy stocks, has increased by 191% year-to-date as of December 19, according to JP Morgan’s research. Brokers are knocking up against regulatory capital restraints. 

The margin financing and stock lending business is already the third-largest revenue source for brokers (around 20%), behind the brokerage and proprietary trading businesses.

To grab more business, some brokers have lowered the minimum asset requirement to Rmb50,000 ($8,000), from Rmb100,000, which gives retail investors easier access to the leveraged funds and increases market volatility, according to UBS research.

“This could draw attention from regulators due to the underlying risks,” Pan Hongwen, a Shanghai-based equity analyst at UBS Securities, said. “We are turning cautious on brokers in response to rising regulatory risks and the sector's full valuation.”
 
The margin financing/stock lending balance will reach Rmb1.0 trillion ($167 billion) and Rmb1.2 trillion in 2015 and 2016, respectively, from 2014’s Rmb770 billion, estimated Pan.

Expecting a sterling year

More brokers are looking to tap the capital markets for funds in 2015, according to bankers.

Guangzhou-based Guangfa Securities and Nanjing-based Huatai Securities are each eyeing a $1 billion Hong Kong listing in the first half, while Guolian Securities is also looking at a $300 million H-share listing by year-end.

Goldman Sachs is on Guangfa’s transaction and JP Morgan and UBS are on Huatai’s.

Hong Kong-listed China Central Securities and Galaxy Securities have applied to return to the A-share market for an IPO, only with the timetable depending on when to secure regulator’s approval.

Brokers’ fundraising plans are not a big surprise as the stock market rally has boosted sentiment and the launch of Shanghai-Hong Kong Stock Connect programme has driven up stock trading volume.

Hong Kong Exchanges and Clearing said on Tuesday that it has clarified for global investors beneficial ownership in A shares they held through the nominee structure established under Stock Connect. It plans to complete the rollout of the A-share short-selling service this month, which will give investors greater flexibility in trading strategy and risk management.

The A-share stock market has jumped 50% since January 2014 and the Shanghai Stock Exchange’s daily turnover has risen twelve-fold since 2013. 

Citic Securities and Haitong Securities shares have surged 49% and 53% in 2014 respectively.

The fundraising plans also mean more revenues for investment banks. Issuers with large share placements usually give banks 0.6% to 0.8% of the deals, and smaller deals can even offer a fee of 1.5% to 2%, according to bankers handling the deals. 

Jumbo private placements

The price of Citic’s placed shares will not be lower than 80% of the average closing over the last five days prior to the deal, the company said. Based on the average five-day closing of HK$28.76 before the deal announcement, the placement size could be HK$35 billion ($4.5 billion).

The transaction could be the largest private placement ever from a Chinese broker in the Hong Kong market, according to banking sources. The 1.5 billion shares represent 127.3% and 13.62% of the total issued H shares and the total issued shares of the company.

Citic Securities has appointed its offshore investment bank, Citic Securities International, as sole global coordinator and CLSA as sole placing agency.

The company hasn’t finalized the placement timetable but may choose to disclose deal details after it secures shareholder approval in February, according to a source close to the company. 

Citic Securities H shares have risen 1.4% since the placement announcement.

On December 23, Haitong Securities sold around 1.9 billion new H shares to seven investors, including New China Life, Fujian-based Haixia Capital Management and London-based hedge fund Marshall Wace.

The placement will provide Haitong more room to issue debt financing tools including sub-debt, preference shares and convertible bonds to replenish capital, as analysts cited the company's management comments.

Haitong Securities International, JP Morgan, Macquarie and UBS were joint global coordinators and joint placing agencies on Haitong’s deal.

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