As banks in Asia wage pricing wars in their bid to win over large companies, who’s backing the SMEs doing business in the region? Shannon Manders reports.
Banks in Hong Kong’s crowded financial sector are jostling for position. As the Chinese government drip-feeds details of its reform plan, aimed at rebalancing its slowing economy, new trade finance players are piling into the market and those already there are ramping up their offerings.
But while there is no shortage of trade finance and financiers keen to prop up the state-owned enterprises (SOEs) and multinational corporations (MNCs), the SME market remains relatively untapped, despite appeals from the Chinese government. “The banks are all going for the same deals – they seem to be focussed on the large corporate,” says Anil Berry, regional commercial director, Asia Pacific at Euler Hermes.
By chasing big-dollar deals with low margins, banks are stifling not only the development of entrepreneurial companies, many of which are based in Hong Kong, but arguably that of the wider economy, and their own growth too. “Banks want to grow the headline numbers, but we have yet to see a real push to lend to the SME segment,” Berry says.
This increased competition in the market has ultimately been a chink in the armour for banks, and has forced pricing down dramatically – often to sub-Libor rates.
In a move to rectify the situation in the private market, though not in any formal capacity, the Chinese government is rallying banks in the region to increase their support for SMEs. Despite this encouragement by the country’s leaders, financing remains reserved for top-quality businesses, and against tangible securities.
Banks are reluctant to back smaller, riskier companies because of the anticipated increased product and operational assessment and control processes, which are likely to create an additional overhead. “I think we should be covering more SMEs as the bigger companies are already covered by other banks – but this is difficult when it comes to KYC, etc,” agrees a Hong Kong-based trade financier at an international bank.
In its most recent effort to support the financial resources of China’s private sector, the government announced in November that private investors that meet certain as-yet-undetermined requirements will be allowed to establish small and medium-sized banks.
This move to open up the sector and spur competition could lead to better-served SMEs, who in the past have relied solely on informal lending from friends and family, other businesses and underground banks. China’s unregulated shadow banking system has been estimated to be as much as 30% of GDP-worth of bad loans, and has been hailed as the most likely source of a financial crisis. The introduction of the new lenders will be good news for SMEs as these banks are likely to focus on consumer and SME credit, but it’s still early days in terms of their risk appetites, and how innovative their product offerings will be.
“We feel something is on the way, but there’s no timeline. It will take time, and the sector will be regulated,” says Berry. “The reforms in this sector may well happen first in the Shanghai free trade zone (FTZ), although this remains a very small area.”
Forward they march
The September 2013 launch of the Shanghai FTZ introduced a step-change to a more open approach to investment and trade for China.
Already, the plans for the FTZ have sparked considerable attention from the global financial communities, with some local and foreign banks rushing to establish a presence in the zone in a palpable show of commitment.
As GTR goes to press, some 10 banks have applied for, and received permission, to set up shop in the zone, but among them, only a handful are foreign institutions. Uncertainty surrounding exact policies and regulations has prevented other banks from following suit, although an announcement made in early-December that financial liberalisations will be launched in three months will work towards reducing their hesitation.
“Everyone is waiting for what will transpire in terms of rules and regulations,” says a banker at one of the first banks to commit to setting-up a branch in the zone. “From an infrastructure perspective, we can switch on our capability tomorrow – it’s easy. The point is it’s all about building the products that conform with the regulations that [the Chinese government] comes up with. And that is missing.”
The situation is likely to become clearer this year; a new set of governing laws for the zone is expected to be reviewed and passed by the Shanghai Municipal People’s Council in the first quarter.
Another point of uncertainty is how Shanghai’s ambitions to make its trading, finance and logistics services meet international standards will impact Hong Kong’s competitiveness as the country’s financial hub and distribution centre.
Although there has been much debate on the topic, until tax breaks are introduced, red-tape bureaucracy has been cut, the renminbi (Rmb) becomes a free-floating currency and the cost of borrowing is market-driven, the zone will have a long way to go before rivalling Hong Kong’s position.
“If you’re [a company or bank] trading in a region, you want to ensure that you get your money back and that there are laws that you can go to. I think Hong Kong still plays a massive role in that and will continue to do so,” says Nadeem Siddiqui, director of trade and working capital at Barclays in Hong Kong.
If and when restrictions are eased, there is concern that Chinese enterprises may be less set on establishing offshore operating arms for their mainland parent companies, which will have a negative impact on banks looking to drum up new business in these offshore areas. Yet it is expected that Hong Kong’s low tax and interest rates will continue to be incentives for these companies to continue to gravitate to the city – at least for the next five years – until changes have been implemented on their home turf.
“In Hong Kong it’s the cost of doing business; the clarity of what you’re getting into; the ease of setting up enterprise; access to capital; language issues; education; expat living; pollution – there are so many factors that will determine how China’s infrastructure takes off,” explains GTR’s source in Hong Kong.
Until such time as the FTZ moves from a broad concept to a tangible reality, and the government defines exactly what it means by “free”, business for banks will not differ significantly from what it is today. The only variance may be that whereas in the past banks had to fund from local deposits, they will now have access to international markets to be able to raise funding, should they need it. They may also be able to tap parent institutions for finance without the bindings they currently face with funding a local subsidiary.
But if the speed at which the internationalisation of the Rmb is a gauge as to how quickly reform can gather speed, then there’s likely to be a long wait before any change kicks into gear. Many trade financiers in Hong Kong confess that they have not yet seen the expected uptake of the currency, which continues to appreciate.
“To facilitate the internationalisation of the Rmb, we need demand to come from the large corporates in China. It’s now more an opportunity than an underlying need, though over time it will come,” explains the head of transaction bankingat an Australian bank in Hong Kong.
As banks continue to elbow one another out of the way in a bid to bank the emerging Asian multinationals, financial players continue to enter – and return to – the market. The European banks, which had previously pulled back from China, have now returned, and their presence is being felt particularly in structured trade finance transactions. Meanwhile, strong Southeast Asian banks, including the likes of DBS and Maybank, are sending in reinforcements.
“There is an excess in supply [of trade finance] that has driven a very price-competitive market across the region over the last 18 months,” explains Simon Constantinides, HSBC’s regional head of trade and supply chain, Asia.
Although regional banks are becoming more aggressive, it is uncertain – with Basel III looming – how long this behaviour can last.
The balance sheet building capacity of the international banks is inhibited by Basel regulations, and soon the regional banks too will have to become more selective in terms of what type of assets they bring on their books and what kind of returns they get.
“That’s what is going to hit the regional banks some time in 2015. Eventually it will catch up with them,” predicts GTR’s source. “That’s where the rubber will hit the road, and we will see how far they will continue with this aggressive behaviour, even on some of the structured deals.”
Currently sitting pretty on hordes of cash are the Japanese banks, who would rather lend out at 40 to 50 basis points (bps) than keep their cash with the Bank of Japan at less than 10bps.
With many banks unable, and unwilling, to compete on pricing, they’re turning their attention to innovative structures to hold on to their current clients and attract new business.
“Banks compete on different levels. You possibly cannot compete on a normal working capital facility, but you can on structure – that’s where they value your expertise,” says our source.
In particular, supply chain finance, for long the preserve of the European and American stalwarts, is seeing new entrants join the ranks in the form of the Japanese banks. Mizuho is in the process of going online with a new, third-party supply chain finance system, which it will soon be rolling out to clients.
Other banks, including the Australians, are also aggressively driving supply chain finance to their clients, though often not with the desired effect, as the Asian market still grapples with a general understanding – and interest – of the various supply chain options available.
“We pitch it hard – as does every bank – and we do get opportunities, but I’m not sure there has been an increase,” says GTR’s Australian source. “But companies are starting to look at it more and more, and they are starting to see the benefits of bringing in a bank.”
Armed with new products and charted growth strategies, banks operating in the region can but hope that spreads start improving. The interest rate set up is unlikely to change until the second half of the year, and until it does, banks will seek only to maintain their existing relationships and give any prospective new borrowers – especially those on a smaller scale – their marching orders.