Big Banks Rushing for Piece of $43 Trillion China Market Amid Trade War

Amid the bitter US.-China trade war, a largely unnoticed development is the attempt by big U.S banks to compete in China's rapidly-growing financial sector. China recently announced specific dates when it will begin allowing full foreign ownership of mainland-based financial services companies. The China Securities Regulatory Commission said foreign ownership controls on futures firms, fund management firms and securities firms will be scrapped next year on January 1, April 1 and December 1, respectively.

“China is very determined to reform its financial markets and knows that without the major American players, it is very hard to talk about having a truly internationalized market,” observes Michael Pettis, a professor of finance at the Guanghua School of Management at Peking University, per a detailed report in Bloomberg. “It also makes sense for China to accommodate a very important source of lobbying support, especially as there’s so little in the U.S. right now," he added.

To this end, executives of leading U.S. financial firms, including JPMorgan Chase & Co. (JPM), Goldman Sachs Group Inc. (GS), and Morgan Stanley (MS), as well as hedge fund and private equity firms The Blackstone Group (BX), and Citadel, recently met with senior Chinese regulators in Beijing. However, a new round of hostilities may be clouding their hopes. Specifically, the U.S. recently imposed export restrictions on more than two dozen Chinese firms, accusing them of abusing Muslim minorities, while also placing visa restrictions on Chinese officials, The Wall Street Journal reports.

Key Takeaways

  • China is opening its financial market to foreign, including U.S., banks.
  • Chinese regulators see this as key to reforming their financial sector.
  • U.S. banks are moving aggressively to expand in China.

Significance for Investors

The world's most populous country with nearly 1.4 billion people, China has a financial system already worth $43 trillion, per Bloomberg. Total profits earned by Chinese commercial banks in 2018 were nearly $267 billion, according to a report from the China Banking Association reported by China Daily. The U.S. banking sector reported profits of $62.6 billion in 2Q 2019, per data from the FDIC reported by Reuters.

The Chinese financial system has been beset by a number of problems that regulators believe can be brought under control if leading foreign institutions with better business practices are allowed to enter the market. Among these issues are record high corporate bond defaults, rising numbers of bad loans, large accounting errors by public companies, and inaccurate filings by IPO candidates.

“Opening up is a way of putting pressure on financial system reforms, especially considering the many competing interest groups,” Li Haitao, the dean’s distinguished chair professor of finance at Cheung Kong Graduate School of Business in Beijing, remarked to Bloomberg.

Meanwhile, as its middle and upper classes grow, China's economy is becoming more consumption-driven, and the demand for wealth management services also is increasing. Additionally, its trade surplus was diminishing even before the trade war.

“To avoid balance of payments challenges, Beijing needs to attract correspondingly large capital inflows, and is plunging ahead with financial sector opening with this long-term reality in mind,” as Daniel Rosen, a partner at economic research firm Rhodium Group, was quoted in the same report.

“We’re all in. We’re not slowing down,” JPMorgan Chase CEO Jamie Dimon asserted in a Bloomberg interview earlier this year. His bank won approval for majority ownership of a securities joint venture in China, with the goal of becoming the sole owner when regulators permit it.

Goldman Sachs has applied to take majority control of its own JV in China, Goldman Sachs Gao Hua Securities, which provides investment banking services such as securities underwriting and M&A advice, Reuters reports. Goldman already exercised operational control of the JV, but was limited to a 33% stake by regulators. UBS Group AG (UBS) and Morgan Stanley also have applied to take majority control of their own JVs, while HSBC Holdings Ltd. (HSBC) launched a majority-owned JV in late 2017 as a result of being partly based in Hong Kong.

Looking Ahead

State-run Industrial & Commercial Bank of China Ltd. (ICBC) is the world's largest by assets, with annual profits about 33% higher than JPMorgan Chase, Bloomberg notes. “JPMorgan will need to be selective around the businesses they choose to be active in order to carve out a meaningful competitive foothold in China,” Benjamin Quinlan, CEO of financial services consulting firm Quinlan & Associates in Hong Kong, observes. “I don’t think they will ever contend against ICBC, given the sheer size of resources at ICBC’s disposal," he added.

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