Beijing’s encouragement for large commercial lenders to increase investments in unlisted companies is a significant move in the broader effort to support the country’s struggling start-ups, analysts said, though they wondered whether the big banks were ready to participate.
Chinese authorities are now allowing the financial asset-investment arms of major commercial banks to increase their allocations to private companies, Li Yunze, director of the National Administration of Financial Regulation (NAFR), said during a briefing on Tuesday. The upper limit for investments in a single private-equity fund has been raised to 30 per cent from 20 per cent.
He said the proportion of on-balance-sheet equity investments will rise to 10 per cent from 4 per cent.
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“Chinese state-owned mega banks typically aren’t involved in direct equity investments in tech start-ups,” said Li Ying, head of financial institution ratings at S&P Global (China) Ratings. “So the new policy announced [on Tuesday] is very significant,”
“By easing restrictions, [authorities are] sending a signal to the market that bank capital is going to play a more significant role in the capital markets, [especially in] mergers and acquisitions,” said Su Jinyu, an associate at Jingtian & Gongcheng, a Beijing-based law firm.
This is a “well thought-out and significant” regulatory decision, grounded in the need for financial security and stability, Su said.
However, it is not clear whether major banks are ready to be good investors in private equity and venture capital, Li said, as there may be deficiencies in terms of a lender’s technical expertise, mindset, and corporate culture.
So far this year, Chinese start-ups have raised US$26 billion, according to data from PitchBook. That is less than half the amount that was raised in any year over the past 10 years. For all of 2021, Chinese start-ups raised US$152.2 billion, which was a record amount.
“With nondomestic investors being highly cautious and many North American institutional investors, particularly large US LPs such as endowments and pensions, pulling back, in China, the market consensus is that state-owned or state-affiliated LPs will play an increasingly important and dominant role,” said Kaidi Gao, a venture capital analyst at PitchBook.
It is unclear whether the policy change will sufficiently incentivise banks to invest in private companies, or what risks they will be exposed to.
“Unless banks are less concerned about financial systemic risk – which we think is unlikely in recent times – it is hard to see any sizeable investment in equities as a percentage of banks’ balance sheets,” said Michael Chang, head of Asia financials at CGS International.
“This is not only because of the higher-risk nature of equities versus loans, but also due to greater pressure on capital ratios as a result of the higher risk weight of equities,” he added.
Capital ratios are a measure of how much capital a bank has relative to its risk-weighted assets. They help to indicate how well a bank can absorb potential losses.
How much greater equity investments could pressure a bank’s capital adequacy depends on the amount of money banks allocate to private companies and what risk factors are applied to those investments, Li said.
“According to the current capital rules, direct equity investment in corporate has a risk weight of 1,250 per cent, essentially [meaning that] no leverage is allowed,” she said. She noted, however, that the risk weight of an equity investment could be reduced to as low as 250 per cent if it is eligible for a government subsidy and subject to state supervision.
“How this new policy will be executed depends on the related capital rules,” she said. “It is too early to tell, given only very general guidelines have been provided.”
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