Chapter 3
The Securities and Futures Industry of Shanghai

1. The Securities Industry in Shanghai

2. The Securities Investment Fund Industry in Shanghai

3. The Futures Industry in Shanghai

China’s capital market emerged along with the country’s reform and opening-up. For a decade or so, the capital market has played a positive role in facilitating enterprise reforms, improving the financial market, and promoting economic development. Simultaneously, as the market is in the stage of burgeoning and transformation as a whole, inherent deficiencies in system exist, and some conflicts and issues that have cropped up in the course of development have to be eliminated and addressed.

The Decision on Some Problems Concerning Improvement of Socialist Market Economy, adopted at the Third Plenary Session of the 16th CPC Central Committee on October 14, 2003, described in detail the strategic significance of developing the capital market in China. Some Guidelines for Promoting the Reform, Opening-up, and Steady Growth of the Capital Market, promulgated in early 2004, detailed the plans for the development of China’s capital market. In recent years, great achievements have been made in the reform, development, and basic system building of the capital market in China after the implementation of the Guidelines, which mainly find expressions in the following aspects:

First, the State Council has implemented a unified plan for the reform of the split-share structure. “The split-share structure is a type of corporate ownership with Chinese characteristics, and it is designed for the state-owned, listed companies including China’s SOEs listed in the mainland and Hong Kong. Having been put in place for many years before 2005, this system specially stipulates that a listed enterprise can only permit a minority of its share (usually less than one-third) to be sold and traded by the public while the rest is not allowed to enter the market for circulation temporarily and can be held by one or several legal persons. This system also leads to a series of aftereffects, including imbalances between supply and demand in the market, conflicts of shareholder interests, and rigid control power of enterprises.”¹ For a long time, the split-share structure has been a bottleneck in the capital market of China.

On April 29, 2005, the China Securities Regulatory Commission (CSRC) published the policy on the reform of the split-share structure and began the reform on a pilot basis. On the basis of completing the pilot work for two batches of 46 companies, the reform smoothly shifted into the next stage of active and steady progress by summing up experiences and formulating a series of policies and concrete measures. By April 3, 2006, when the plan for the reform of split-share structure for the 37th batch was published, 793 of the 1,348 listed companies (59%) have finished the reform or entered the procedures for the reform of split-share structure. The total capitalization of the companies that should take part in the reform across the country amounted to RMB 3.52 trillion, and that of the companies that have begun or finished the reform added up to RMB 2.33 trillion, accounting for 66% of the total. Ninety-four of the 138 listed companies (68%) that should take part in the reform in Shanghai have finished or began the reform.

Second, the quality of listed companies and the level of standardized operation have improved. With more than ten years of development of the securities market, listed companies have kept growing, with their operations becoming more standardized and their quality gradually improving. Thus, listed companies are becoming a leading force to facilitate enterprise reforms and promote industrial growth. However, due to a combination of many factors, including systems, mechanisms, and environment, quite a few listed companies have come across problems in terms of corporate governance structure and standardized operations. Also, their profit-earning capacity is

¹ Xiao, Geng, “An Institutional Economic Analysis of Split-Share Structure,” http://finance.nen.com.cn/74350075781840896/20060310/1867193.shtml.

weak with low investment return, which seriously affects the confidence of investors and restricts the healthy and steady development of the capital market.

With the continuous improvements in the socialist market economy and the further deepening of the reform of the capital market, raising the quality of listed companies has become a major task for the healthy growth of the capital market at its current and later stages. In view of the funds being abused by big shareholders that seriously damage the quality of listed companies and provision of illegal guarantee by listed companies, the CSRC urged listed companies to clear up and rectify, and demanded big shareholders to fully pay off their debts by the end of 2006.

Third, a comprehensive treatment of securities companies has been carried out positively. The illegal operations of securities companies have been effectively contained and high-risk securities companies have been smoothly disposed of. Since 2004, 20 high-risk securities companies have been closed resolutely, and a group of responsible persons suspected of violating laws and regulations have been investigated for criminal liabilities. The China Securities Investor Protective Fund Company started business officially and an enduring effect mechanism for risk disposal has been piloted and basically established. Simultaneously, diverse modes of reorganizing securities companies and the market-oriented reorganization mechanisms have been studied. In the second half of 2005, the Central Huijin Investment Company and Jianyin Investment Limited, under the PBOC, restructured securities companies through phased restructuring and equity investment. As a result, some securities companies, like Yinhe Securities Limited, Shenyin Wanguo Securities Company, and Guotai Jun’an Securities Company, have enhanced their financial resources remarkably. In September 2005, the Ruiyin Group intended to restructure Beijing Securities by making an investment of RMB 1.7 billion with a shareholding proportion of 20%. Simultaneously, the basic systems of the securities market have been continuously perfected. Also, new progress has been made in industry innovation. Furthermore, a group of influential, new products has been launched, such as the Hushen (Shanghai) 300 index, certificates of shares, and the securitization of assets, enlivening the securities transaction market.

Fourth, institutional investors continue to increase. In recent years, the size of the securities investment fund has risen steadily and institutional investors, such as qualified foreign institutional investors (QFII), insurance companies and their asset management companies, enterprise pensions, and social security funds have developed rapidly and become a major force in developing the capital market. A diversified pattern of institutional investors has been basically established. These institutional investors have played an important role in promoting the reform and the stable development of the capital market.

Fifth, the legal system of the capital market has improved incessantly. In October 2005, the revision and implementation of the Securities Law and the Company Law created great room for the growth of the capital market, intensified supervision responsibility, and provided a firm legal basis for the sustained, healthy growth of the capital market.

1. The Securities Industry in Shanghai

China has two stock exchanges: the Shanghai Stock Exchange and the Shenzhen Stock Exchange. By December 31, 2005, the two exchanges had hosted 1,381 listed companies altogether, 834 of which were in Shanghai and 548 in Shenzhen. The two exchanges had issued 1,464 stocks, 878 of which belonged to the Shanghai Stock Exchange (824 A-stocks and 54 B-stocks) whereas 586 belonged to the Shenzhen Stock Exchange (531 A-stocks and 55 B-stocks).

1.1 Securities Business and Service Institutions

Securities business institutions mainly refer to securities companies and their branches. In accordance with the Securities Law of the PRC, companies or individuals who want to establish a securities company in China must obtain the approval of the China Securities Regulatory Commission (CSRC).

By December 31, 2005, China had 132 securities companies. As an intermediary of issuance, securities companies can link listed enterprises and investors by conducting stock issuance and underwriting business and promote the standardized operation of listed enterprises and optimized distribution of resources. As a broker of securities transactions, securities companies can promote the circulation of securities, raise the efficiency of securities circulation and assignment, and simultaneously boost the improvement of investors’ qualities. As a main player of investment and institutional investor, securities companies can also play a major role in enlivening and stabilizing the market and championing new investment concepts.

At present, 19 securities companies are registered in Shanghai. These companies have 581 securities business divisions, 171 of which are set up in Shanghai and the other 410 are distributed across the country. Moreover, securities companies registered in other places have 285 securities business divisions in Shanghai.

Securities service institutions are defined herein as investment consulting agencies, financial advisory institutions, credit rating institutions, assets appraisal institutions, accounting firms, and law firms. In accordance with the Securities Law of the PRC, if an investment consulting institution, financial advisory institution, credit rating agency, or accounting firm wants to engage in the securities service business, it must gain approval from the CSRC and relevant competent departments.

At present, Shanghai has 31 CSRC-approved securities investment consulting companies, 20 of which are specialized securities investment consulting agencies. Also, 11 of the companies are sideline securities investment consulting agencies (mainly securities companies), and six are Shanghai branches of securities investment consulting agencies headquartered elsewhere.

1.2 The Business of Securities Institutions

1.2.1 The statutory business of securities companies

In accordance with the Securities Law of the PRC, a securities company can carry out the following businesses, in part or in full, in line with the amount of its registered capital: securities brokerage, securities investment consulting, financial advisory service related to securities transactions and investment, securities underwriting and recommendation, self-operation of securities, management of securities assets, and other securities businesses.

The registered capital of a securities company is its paid-in capital. Where a securities company conducts the businesses as prescribed for securities brokerage, securities investment consulting, and financial advisory services, the minimum amount of registered capital shall be RMB 50 million. For the operation of two or more items from securities underwriting and recommendation to other securities businesses, the minimum amount of registered capital is RMB 500 million. The CSRC may adjust the minimum amount of registered capital in line with the principle of prudential supervision and the risks of various businesses, but not below the above limit.

1.2.2 Other securities businesses

According to the Securities Law, securities companies are allowed to engage in other securities businesses, which mainly refer to innovative ones approved by the CSRC. Innovations in securities are the impetus for the growth of securities companies and the securities market. It can be predicted that the growth of securities companies in the future will depend upon the innovation capacity and the momentum for launching innovative products. Moreover, innovation will give rise to new profit-earning methods for securities companies in the future and change their patterns of competition.

However, major risks may emerge from innovation. In order to prevent and control risks, securities companies have to be guided toward standardized and healthy development. In 2004, the China Securities Industry Association launched a pilot project for innovation by securities companies. According to the relevant provisions of the China Securities Industry Association, securities companies for any pilot innovation should meet the following four conditions. First, safety, integrity, and transparency of clients’ assets must be effectively guaranteed. Second, no potential major risks exist in the management of clients’ assets, the repurchase of bonds, or in self-operation. Third, the financial indicators centered on net capital must be sound and show the potential of vigorous growth. These indicators include net capital, the ratios between the net capital and net assets, between the current asset and liabilities, and between the externally guaranteed amount and net assets. Furthermore, all the indicators must be calculated in line with the new accounting system for financial enterprises. Fourth, the corporate governance and internal risk control mechanisms must be sound with high risk resilience.

By December 31, 2005, China had 15 securities companies approved for pilot innovation, and five of them were based in Shanghai. They are Guotai Jun’an, Haitong, Everbright, Oriental, and Shanghai Securities. Four of them—Everbright, Oriental, Guotai Jun’an, and Haitong—were approved to conduct aggregate financial product business and have been in operation since. Shenyin Wanguo and Guotai Jun’an received RMB 2.5 billion and RMB 1.0 billion respectively as capital investment from the Central Huijin Investment Company.

On April 19, 2005, the CSRC issued the Circular on Some Issues Related to Evaluation and Supervision of the Standardized Securities Companies (hereinafter referred to as the Circular). The Circular stipulated that securities dealers that qualified as standardized securities companies could apply for administrative permits for related business items based on laws, regulations, and relevant provisions. Also, they could select their business line and size on the basis of their risk control and bearing capacity in line with their corporate financial position and net capital. Other factors for consideration in the application process would be the dealers’ progress of solving historical problems, and their efforts to actively defuse existing risks. Furthermore, the policies and measures adopted by the CSRC for facilitating innovation-based development in the securities industry will be implemented in the standardized companies gradually.

1.3 Securities Companies with Foreign Equity Participation

Securities companies with foreign equity include those restructured through assignment and acquisition of the equity of domestic securities companies by foreign shareholders, or those jointly-invested by foreign and domestic shareholders. Securities companies with foreign equity are subject to the approval and supervision by the CSRC. In accordance with the Company Law and the Securities Law of the PRC, the CSRC formulated The Rules for the Establishment of Securities Companies with Foreign Equity (briefly referred to as the Rules) on June 1, 2002. The Rules stipulated that the organizational form of a securities company with foreign equity should be a company limited by its liabilities. The name, registered capital, organizational structure, and responsibilities should conform to the Company Law, the Securities Law, and related rules and regulations formulated by the CSRC.

Securities companies with foreign equity may engage in the following business operations: underwriting stocks (including common share in RMB and foreign capital share) and bonds (including government bonds and corporate bonds); brokerage of foreign capital shares—foreign capital share listed in the Chinese territory (B-stock) and foreign capital share listed abroad; brokerage and self-operation of bonds (including government bonds and corporate bonds); and other businesses as approved by the CSRC.

Securities companies with foreign equity must meet the following requirements:

• Their registered capital must be in conformity with the provisions of the Securities Law.
• The shareholders have the qualifications as stipulated in the Establishment Rules and their proportion and modes of contribution must conform to the provisions of the Establishment Rules.
• The number of employees with qualifications for securities business as stipulated by the CSRC must not be less than 50, in addition to a required number of professionals engaged in accounting, law, and computing.
• They should have sound internal management systems, risk control mechanisms, and separate management systems for underwriting, brokerage, and self-operation in institutions, personnel, information, and business execution, in addition to appropriate internal control technical systems.
• They should have proper business premises and qualified transaction facilities.
• They should be able to satisfy other prudential requirements set forth by the CSRC.

Domestic shareholders in securities companies with foreign equity should have the qualifications set forth by the CSRC for those of securities companies. Foreign shareholders in such companies should meet the following requirements:

• There is a complete securities law and supervision systems in the country where the foreign party is based and that country’s securities regulatory organization has signed a memorandum of understanding for cooperation in securities supervision with the CSRC.
• The foreign party has legal qualifications for securities business in the country where it is based and has conducted financial business operations for more than ten years with no record of serious criminal punishment by any securities regulatory and judicial institutions over the past three years.
• Various risk control indicators have been found in conformity with the laws and regulations, and the requirements of securities regulatory institutions in the country where it has been located for the past three years.
• The securities company should have a sound internal control system.
• The foreign party should have a good reputation and sound operational performance in the international securities market.
• The foreign party must be able to meet other prudential requirements set forth by the CSRC.

At present, three of the 19 securities companies registered in Shanghai are Sino-foreign joint-venture investment bank securities companies. These companies are the Haiji Dahe Securities, Changjiang Paris Peregrine Securities, and BOC International Securities.

1.4 Representative offices of Foreign Securities Institutions in China

Foreign securities institutions refer to financial institutions engaging in securities business, including investment banks, commercial banks, securities companies, and fund management companies that are established legally outside the territory of the PRC. Representative offices of foreign securities institutions in China refers to the non-business representative offices of foreign securities institutions engaging in consulting, liaison, and market research as approved by relevant authorities in the territory of China.

In order to tighten the management of representative Offices of foreign securities institutions in China, the CSRC promulgated on April 22, 1999, The Measures for the Administration of Representative offices of Foreign Securities Institutions in China (hereinafter referred to as the Measures). According to the Measures, the CSRC is the institution of approval and supervision for the representative office. Also, the representative agencies of the CSRC shall exercise routine oversight of the representative office in the areas under their jurisdiction. Moreover, the Measures explicitly stipulate the conditions, procedures, and supervisory requirements for the application, establishment, alteration, and withdrawal of the representative offices of foreign securities institutions. Furthermore, the Measures prohibit the representative offices and their employees to sign with any legal person, or natural person, any contracts or agreements that may bring income to the representative offices or the institutions they represent, or to engage in any other businesses. By December 31, 2005, there were altogether 53 representative offices of foreign-invested securities institutions in Shanghai as listed in the following table.

2. The Securities Investment Fund Industry in Shanghai

2.1 Profile of the Securities Investment Fund Industry in Shanghai

With the establishment of the legal system centered on the Law of the PRC on Securities Investment Funds, the securities investment fund industry has entered a stage of rapid development. Guotai Fund Management Company was set up on March 5, 1998, becoming the first securities investment fund management company in Shanghai. As of the end of 2005, 53 securities investment fund management companies had been established. Up to the end of 2005, 218 securities investment fund products had hit the market, including 54 closed funds and 164 open funds. The fund size expanded from RMB 2 billion at the beginning of 2005 to RMB 47.41 billion at the end of 2005.

In terms of the difference in investment targets, funds can be categorized into stock funds, bond funds, currency market funds, and break-even funds. Also, in terms of the difference in investment goals, funds can be classified into return type, growth type, equilibrium type, value type, fine selection type, proactive distribution type, as well as mixed type.

In recent years, the securities investment fund industry has developed rapidly in Shanghai, enabling the city to become an operational center for securities investment fund management companies in China. By the end of 2005, the number of securities investment fund management companies operating in Shanghai had increased sharply from six in 2002 to 25, accounting for about 47% of the 53 total investment fund companies in China. Among them, 13 are Sino-foreign joint-venture fund management companies, accounting for 65% of the total of 20 joint-venture fund management companies across the country. Additionally, there are 17 Shanghai branches of the securities investment fund management companies registered elsewhere.

By the end of 2005, the number of funds managed by fund management companies in Shanghai reached 75, accounting for 34% of the total of 218 funds in the country. Among them, the number of open funds increased from four in 2002 to 62, accounting for 38% of the total 164 funds in China. There were 13 closed funds, accounting for 24% of the total of 54, and the fund assets increased from RMB 31.7 billion in 2002 to RMB 149.2 billion, accounting for 32% of the total. The funds managed by fund companies in Shanghai involved 11 custodian banks in all, three of which were operating in Shanghai. The fund commission sales outlets consisted of 1,874 outlets of 13 banks and 341 outlets of 52 securities companies.

2.2 Stipulations on Equity Participation by Overseas Shareholders in Establishing Sino-Foreign Joint-Venture Securities Investment Fund Management Companies

In accordance with The Measures for Administration of Securities Investment Fund Management Companies (hereinafter referred to as the Measures) formulated by the CSRC, overseas shareholders of Sino-foreign joint-venture fund management companies must meet the following requirements:

• The shareholder is a financial institution established according to the laws of its home country or region, has experience in managing financial assets, is sound in financial and credit status, and has no record of punishment by the regulatory or judicial authorities over the past three years.
• Its home country or region has sound legal and regulatory systems for securities, and its securities regulator has signed the Memorandum of Understanding for cooperation in regulation with the CSRC or other departments approved by the same.
• The paid-in capital is not less than RMB 300 million or an equivalent amount in other currencies.
• The company must be able to meet other requirements as stipulated by the CSRC with the approval of the State Council.

The above requirements also apply to investment institutions from Hong Kong Special Administrative Region, Macao Special Administrative Region, and Taiwan.

The accumulated equity held by a foreign shareholder in a Sino-foreign joint-venture fund management company cannot surpass (including direct or indirect holding) the amount specified by the state for the opening-up of the securities industry. Also, one or several financial institutions under the control of the same person cannot hold the equity of more than two fund management companies. They can only hold the controlling share of at most one fund management company.

2.3 Qualified Foreign Institutional Investors (QFII)

The QFII system is a transitional arrangement for the opening-up of the capital market in China. In order to govern QFIIs’ investments in China’s securities market and promote the development of China’s securities market, the PBOC and the CSRC jointly promulgated The Interim Measures on Management of Domestic Securities Investments of Qualified Foreign Institutional Investors on November 15, 2002. According to the Interim Measures, QFIIs are defined as overseas fund management institutions, insurance companies, securities companies, and other asset management institutions that have been approved by the CSRC to invest in China’s securities market and granted investment quotas by the State Administration of Foreign Exchange (SAFE). Also, as stipulated in the Interim Measures, QFIIs should entrust domestic commercial banks as their custodians and domestic securities companies as their brokers for domestic securities trading. The CSRC and SAFE supervise and control the securities investing activities of QFIIs within China.

The Interim Measures specify different stipulations for the asset size of QFII for different types of institutions. Fund management institutions should have been engaged in fund businesses for over five years, with the volume of assets managed in the last accounting year being not less than US$10 billion. Also, insurance companies should have carried out insurance businesses for over 30 years with a paid-in capital of not less than US$1 billion, and managing securities assets worth not less than US$10 billion in the last accounting year. Additionally, securities companies should have carried out securities business for over 30 years with a paid-in capital of not less than US$1 billion, and managing securities assets of not less than US$10 billion in the last accounting year. Furthermore, commercial banks should rank among the world top 100 in the total assets for the accounting year, and should be managing securities assets of not less than US$10 billion. Finally, the CSRC may adjust the aforesaid requirements subject to the developments of the securities market.

With respect to investment management by QFIIs, the Interim Measures stipulate that QFIIs may authorize domestically registered securities companies to manage their domestic securities investments and each QFII can only authorize one investment institution. For domestic securities investments, QFIIs should observe the following requirements. First, shares held by one QFII in one listed company should not exceed 10% of the total outstanding shares of the company. Second, total shares held by all QFIIs in one listed company should not exceed 20% of the total outstanding shares of the company. The CSRC may modify the above percentages based on the developments of the securities market.

3. The Futures Industry in Shanghai

By the end of 2005, Shanghai had 25 registered futures brokerages, accounting for 14% of the total in China. Of the 25 registered companies, Pufa Futures and Huawen Futures had a registered capital of 100 million RMB each. Futures brokerages registered in other places have set up 46 business divisions in Shanghai.

The futures brokerages in Shanghai act as agents for futures business in the three commodity futures exchanges in Shanghai, Zhengzhou, and Dalian. In 2005, the total agency business volume of the futures brokerages in Shanghai amounted to RMB 1.42 trillion, accounting for 10.57% of the total volume of the whole of China. Of the total volume in Shanghai, the agency business volume for futures exchanges accounted for 54.49%; and of the total volume in Dalian, the agency business volume for futures accounted for 39.63%. However, the agency business volume for futures exchanges in Zhengzhou accounted for only 5.88% of the total volume of that city.

The agency business volume for various types of commodities changed significantly between 2004 and 2005. As seen in Table 3.9, the business volume of copper accounted for 30.9% of the total,

ranking first among the listed commodities. The next largest business volume was for soybean No. 1, which accounted for 21.4% of the total. The commodities that rose the fastest in annual business volume were corn and fuel oil, up 594% and 559% from 2004 respectively. In terms of several other commodities (soybean No. 2, corn, fuel oil, and cotton) that were marketed in 2004, the aggregate agency business volume of corn and fuel oil in 2005 accounted for 9.25% of the total of the companies in that area, due to the increased market recognition and participation of investors.

The futures brokerages in Shanghai fall into two opposing extremes. Companies with total assets ranking among the top five, accounted for 44.38% of the total in Shanghai. Companies with profits ranking among the top five earned a total of RMB 9.0783 million while all 25 companies operated at a loss of RMB 5.4373 million.