Shanghai exchange repo rules to boost China ABS

The new debt repurchase (or repo) business launched last week by the Shanghai Stock Exchange should help in the development of China’s asset-backed securities market by widening the range of collateral that can be used to include ABS.

The Shanghai Stock Exchange's revamped repo market, which previously only accepted some corporate debt and national bonds as collateral, also gives market participants the power to finalise their own transaction terms, including duration, yield, and discount, and to agree changes after an agreement takes effect.

Currently, all such deals are matched through the exchange’s open and centralised price bidding system and there is little room for the participants to negotiate the deal terms.

Repurchase agreements, or repos, are a highly liquid form of short-term borrowing that involve selling securities -- typically government securities -- and buying them back, or repurchasing them, the following day.

By expanding the product pool and improving liquidity in the secondary market, it is hoped that the Shanghai Stock Exchange's repo reforms will give China’s stilted ABS market a welcome shot in the arm.

China’s securitisation market grew ten-fold in 2014 to Rmb326.4 billion ($54 billion), according to a research report by China International Capital Corp. However, ABS only accounted for 2.8% of the whole market. Credit securitisation issued by banks and asset management projects arranged by brokers, in contrast, accounted for 86.8% and 10.5% of the total, respectively.

ABS are securities whose income payments and hence value are derived from, and backed, by a specified pool of underlying assets. In China, they are regulated by the China Securities Regulatory Commission and listed on exchanges. In contrast, the rest of the country's securitisation market is regulated by the People’s Bank of China and traded in the interbank market. So the country has two different repo markets -- one that is exchange-based and one that is not.

The main obstacle for the development of the ABS market is secondary market illiquidity. The product pool of bonds and ABS listed on stock exchanges is relatively small, compared with other securitisation products traded in the interbank market and on over-the-counter markets.

“The new repos business will help to provide liquidity for the bond and asset-backed securities,” the SSE said in an announcement. That's because it's now much easier for bondholders to securitise their credit assets and raise funds from the capital market, and there are more product options for investors to choose on the stock exchange, the statement said.

To make the pie bigger and provide more supply to boost liquidity, that’s the way the stock exchange is heading to and it’s the right way.