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Index futures may shake up brokers amid competition

(Shanghai Daily)
Updated: 2007-04-16 08:52

China's proposed pilot launch of stock-index futures as early as this quarter on the mainland will bring about a much-needed new revenue channel for stock brokers, apart from their traditional fee-based businesses.

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But the long-awaited move could also lead to margins being squeezed among weaker securities players and stir industry competition for experienced staff as the business kicks off, analysts believe.

Financial authorities are scheduled to launch the nation's first index futures contracts in the first half of the year to track the top 300 Chinese mainland-traded firms.

Under the plan, a securities firm will be allowed to join the program by acting as an introducing broker who solicits client orders for futures firms and earns a pre-set commission.

However, regulators issued rules last week to set tough net-capital thresholds for stock dealers to start the business. Applicants must also control a futures firm licensed to trade financial derivatives.

"As speculation has become something regular in the mainland, it's no surprise that the regulator set such high licensing barriers including capital requirement," said Hou Ning, an independent financial commentator.

"If not, we may see endless cases in which brokerages report bankruptcy in the future."

Although experts noted the basic function of index futures is to hedge against stock-purchase risks, there are still worries among regulators and investors over possible misconduct, given the products' risky nature.

"The new (introducing) business is potentially lucrative given the big market base," said Wu Zhiguo, a Guohai Securities Co analyst. "The strict thresholds show regulators still hope to bolster stock-industry leaders while prompting the sector to consolidate."

Challenges facing brokers include how to find the right employees in a market with little knowledge of financial derivatives and related businesses.

Stock houses also have to compete for a limited number of brokerage talents for their futures subsidiaries. Currently, the mainland's futures industry only has 5,000 to 6,000 people who hold qualification certificates to help clients trade futures, regulatory data showed.

"The new financial derivatives will boost demand for futures traders and technical upgrades in trading-related tools in China," said Yu Yiran, director for risk control at China International Futures (Shanghai) Co.

"The coming of index futures would at least need 25 percent more traders to join as futures companies expand businesses. In addition, at least 2,000 more are needed in introducing broker business."

The tight supply could leave huge opportunities in the training sector for related talents and may prompt universities to adjust courses to focus more on futures trading, according to Yu.

For the stock market, the index futures can widen daily volatility and have a big impact on the trend of large-cap counters, analysts said. The new derivative may lure a large amount of investors, who need to be well educated about potential risks, they said.

"The spot index has already been responding to the launch of index futures with institutions building up positions in those heavily weighted stocks," said Han Gaofeng, a researcher at the China Center for Financial Research under the China Europe International Business School.

"We see more volatility in the market ahead."

China International's Yu noted that financial futures are set to cover a wider range of investors. "But unlike commodity futures, we don't have experience in index futures. So we must boost risk controls and educate investors in advance."

Securities houses should have at least 1.2 billion yuan (US$155 million) in net capital before they can apply for a license to act as an introducing broker, according to draft rules unveiled last week.

Any candidate must also control a futures subsidiary and have capital of at least 70 percent of net assets. Authorities may also let mutual funds, insurance funds and qualified foreign investors tap the potentially lucrative derivative business.