November 8, 2012 1:28 pm

Foreign banks fail to grow in China

Foreign banks are failing to make headway in China and will not create profitable mainland businesses just through riding the expected growth in the markets, according to a study.

The onshore investment banking, securities trading and corporate lending ventures of foreign banks have won less than 7 per cent market share between them at best and that has barely changed in the past five years, according to the analysis from consultants at Oliver Wyman.

Banks from the US, Europe and elsewhere continue to invest in China against the promise of the growth to come. When Citigroup officially launched its mainland securities venture recently, it said it expected China to supply 10 per cent of the world’s bond and equity issues in a year to 18 months’ time.

Oliver Wyman forecasts the wholesale banking market in China will grow at 10 per cent a year on average over the next decade and see annual revenues of Rmb4tn by 2020.

However, Christian Edelmann, lead author of the study, said domestic banks would be the biggest winners from this growth because of their strong government connections and deep balance sheets. Foreign banks, meanwhile, would remain hampered by restrictions on what their businesses were allowed to do.

“The banks still believe that in five years’ time, the growth in the market will create better economics on shore and that’s a real fallacy,” he said.

Foreign banks’ joint ventures in China remained sub-scale and suffered from poor profitability, he said. In the securities business, for example – which helps companies list on the Chinese stock exchanges – the foreign banks’ ventures have an average cost-to-income ratio of 90 per cent compared with an average of 60 per cent for all domestic companies and only 40 per cent for the top-20 domestic groups.

The story is similar in commercial banking and asset management joint ventures, according to the study, though the differences are less extreme.

Banks such as Goldman Sachs and UBS, which have the longest history in the mainland securities markets, and others that operate in China, all argue that the onshore business cannot be looked at alone.

The benefit, they say, is in all the profitable offshore business derived from the relationships with mainland companies won through their onshore ventures. This offshore business includes Hong Kong stock market listings and the hedging of foreign exchange exposures.

Mr Edelmann said that some banks did build significant foreign exchange contracts with large individual corporate clients that were very profitable. “Banks historically have justified their onshore footprint by looking at the money they’re printing offshore,” he said.

But instead, they should review their operations and redesign their strategy, he added.

Foreign banks have done well through owning stakes in Chinese institutions, where value growth alone has bought annualised returns of between 20 per cent and 40 per cent, the study found. Some, such as HSBC’s holding of Bank of Communications, have provided strong dividend income as well, the report said.

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