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China Set to Stress-Test Brokerages

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China plans to stress test its brokerage industry this year to protect against potential market deterioration, according to sources in the region.

Reuters reported Wednesday that industrywide stress tests would begin this year. Selective tests of individual brokerage houses, including China International Capital Corp (CICC), had already been conducted in a pilot program earlier in the year.

Tests by the China Securities Regulatory Commission (CSRC) come as a risk management effort within the financial sector, similar to actions taken by the banking regulator over the past few years, according to unnamed sources quoted by Reuters.

Liang Jing, analyst at Guotai Junan Securities Co., who said he had no knowledge of the plan, was quoted in the report saying, “The importance of stress tests is rising as Chinese brokerages are conducting more and more innovative businesses such as index futures. Still, China’s brokerage industry won’t face systemic risks, and even in the event of a prolonged bear market, brokerages’ losses won’t have far-reaching social impact.”

Although China went through a bear market from 2001-2005, analysts said that industrywide brokerage losses did not trigger the kind of bankruptcies or social unrest that might have been expected because they had little access to derivatives or to leverage.

During the test, conditions of a steep drop in the market or a shortage of liquidity will be among the scenarios considered. Also to be factored in are business, operational, and credit risks. Those brokerages that are found to have problems under these proposed conditions will be encouraged to restructure business lines, shore up their capital, or change development plans, according to one of the sources.

The brokerages in the pilot program were able to pick and choose their own scenarios, but those for the industrywide test have not yet been chosen by the CSRC.