China pilot scheme aims to shatter assumption; investments are not guaranteed

Thu Oct 10, 2013 7:30pm EDT
 
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By Gabriel Wildau and Shengnan Zhang

SHANGHAI (Reuters) - China will launch a pilot programme next week aimed at shattering a widespread assumption among Chinese investors that products, even high-yield ones, provide guaranteed returns when offered by state-owned banks, sources said.

For years, many Chinese treated their investments in so-called wealth management products, many of which offered enticing returns, as tantamount to a deposit with a guaranteed yield, even if that was not the case.

Policymakers have warned that such a high level of moral hazard has been built into the wealth management industry that if a product failed to payout as promised, banks would face enormous pressure to compensate investors, even if they were not legally required to do so.

Investors protested outside a branch of Hua Xia Bank (600015.SS: Quote) late last year when a product it had distributed failed to pay out on maturity.

"The key change is to remove an implicit guarantee of principle and yield, in the form of 'expected return,' by wealth management products," David Cui, equity strategist with Bank of America-Merrill Lynch in Hong Kong, said in a client note.

"Currently, most wealth management product buyers view their investments as deposits while, legally speaking, they bear most of the downside if investments go bad."

Wealth management products have soared in popularity in recent years as an alternative to investment in real estate, volatile stock markets and state-set deposit rates. Most are short-term savings vehicles often created by third parties but issued through banks.

The rising popularity of the opaque products have sparked concerns of a credit binge directing money into increasingly speculative investments, which analysts say could pose a risk to the financial system.   Continued...