What the ambitions of China’s banks mean for Hong Kong

Two decades after Britain handed Hong Kong back to Beijing, global banks that have pinned their future strategy on Asia are right to be wary of the international aspirations of China’s financial institutions.

China’s president, Xi Jinping, paid a visit to Hong Kong on July 1 to mark the twentieth anniversary of the handover – and left no doubt as to who was in charge. In a speech that took aim at pro-democracy campaigners, Jinping said the relationship between Hong Kong and the central government in Beijing should be governed by the principle of ‘one country’. Any attempt to challenge this “is absolutely impermissible”, he added.

China has enjoyed a remarkable economic transformation over the past two decades, with the country’s largest banks aggressively expanding abroad. But within these widely acknowledged themes lie a couple of nuances that global banks would do well to pay heed to.

One is the sheer speed with which China’s more savvy banking behemoths are mastering complex risk management challenges that their global peers have spent decades dealing with through trial and error.

With the pinch of anxiety creeping into his voice, one senior risk manager within the global markets division of an international bank said that these days it is not unusual for one Chinese bank to increase headcount by up to 300 just to tackle a single issue. A good handful of these recruits will already have experience working at a global bank.

For example, the use of risk premia to drive better investment returns has been receiving a lot of attention from Chinese banks, with industry sources reporting that large amounts of money have been pouring into the development of sophisticated in-house quantitative strategies at several of China’s megabanks.

But this emerging sophistication is not confined to the top-tier banks. Smaller players are also revamping their risk management systems to better serve their clients. For the time being, many of these players are content to position themselves to capture cross-border trade flows from the motherland. This largely means establishing operations in Hong Kong and getting a better handle on their credit risk exposure.

But it might not be long until, flush with their success in Hong Kong and brand new risk management frameworks, these banks will be ready to take on the rest of Asia, leeching market share from established players.

“Global banks are right to be worried,” says a senior risk manager from one of these mid-sized Chinese banks. “For the past 20 years, the Hong Kong market has been the stronghold [of foreign banks in Asia] and now the Chinese are threatening this. At the same time, the market share of foreign banks in China still remains minimal.”

The China of today is all but unrecognisable from the China that, 20 years ago, took back control of the small British colony of Hong Kong. Those global banks that want to continue to thrive in the evolving Asian landscape need to understand what the China of tomorrow will look like.