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The China conundrum for wealth management companies

After Archegos, firms need to reassess risk of doing business in the country

Nomura Orient set up a branch in Beijing last December with the intention of starting operations in Shenzhen in July. (Source photos by AP and Reuters)

TOKYO -- In the wake of the Archegos debacle, Japanese financial companies should take more care in expanding their wealth management businesses in China.

Nomura Orient International Securities, a Shanghai-based Chinese joint venture between Nomura Holdings and a local partner, set up a branch in Beijing last December, intending to begin operations in Shenzhen in July.

The Japanese company took an over 50% stake in the JV, which in the time of its setup in December 2019 and now, has drawn more than 50 billion yen ($459 million) from over 600 customer accounts. Nomura Orient was able to do this by expanding its operations focusing on wealth management, taking advantage of the expanding class of the superwealthy in China.

"Nomura Orient's business is steadily advancing," said Toshiyasu Iiyama, deputy president of Nomura Securities, who oversees Nomura's Chinese operations. Nomura Orient plans to increase the number of employees to 500 from the current 200 or so by 2023 and to broaden the scope of its business to include securities underwriting and others.

Nomura's bullishness is not uncommon. China is a market that few financial institutions can ignore, even as the country tussles with the U.S. for global power, which U.S. President Joe Biden has referred to as a battle between democracies and autocracies.

China is the only competitor to the U.S. capable of challenging the international order. Japan as an ally of the U.S. should remember who its friends are in the way it conducts business with and in China. Particularly so in the IT and nuclear power-related businesses, which are directly linked to national security, and requires utmost care and consideration.

Yet, financial institutions seem to be shrugging off the tension between Beijing and Washington. Nomura Holdings' strategy in China does not seem to take into consideration the U.S.-China confrontation, at least superficially.

In fact, neither are the U.S. securities companies, as well as European ones, who are still, as they had over the last few decades, rushing to expand their operations in China. Japanese securities firms "do not have a choice to rule out the Chinese market," Iiyama said.

According to Nomura Institute of Capital Markets Research, there were 17 foreign securities joint ventures in China. Goldman Sachs of the U.S., which broke into the Chinese market early on, is targeting to gain 100% control of its joint venture and planning to double the number of employees to 600 by 2024. Swiss-based UBS, whose Chinese unit hires 1,300 people, intends to increase its stake to 67% from 51% by the end of May.

Since the end of the tenure of former U.S. President Donald Trump, China has used the progressive liberalization of its financial market as a trump card in negotiations with the U.S. One of its moves is to lift entirely in 2018 a 50% ceiling on foreign ownership of a securities or life insurance joint venture. Nomura, Goldman, UBS and other major foreign securities firms have enlarged their Chinese operations since then.

Financial business in China seem immune to the U.S.-China friction and the COVID-19 pandemic. Still, a number of Japanese, U.S. and European industry insiders are starting to voice some uneasiness over risks particular to doing business in China.

One of those is the customers themselves. A case in point is the collapse of Archegos Capital Management, a family office that manages the personal assets of U.S. investor South Korean-born Bill Hwang. There are many such individuals in China who have made a fortune in their lifetime through creating companies or making timely investments.

While the securities companies may find it easy work to run businesses by managing the assets of founding families and handling the firms' initial public offering, they could subsequently find themselves entangled in speculative deals with the new rich that they can not get out of. The collapse of Archegos is still rippling through the world, with many investment banks bleeding money from their relationships with the entity.

The other problem is reputational risk. China is under harsh international criticism over its treatment of Uyghurs in Xinjiang. Some major retailers face a tough decision on the use of cotton produced in the Xinjiang region. On the one hand, they cannot be seen to be condoning human rights abuses, on the other, they cannot do without the vast Chinese market.

ESG (environment, social and governance) investors could increasingly shy away from businesses they see as not taking a stand against China in this respect. Some Japanese banks already face questions about their ties to the palm oil industry in Southeast Asia, which has decimated wildlife and destroyed the habitats of endangered species, and in which employees are treated horribly.

In view of these risks, foreign financial institutions must tread carefully in China. While it is unthinkable for Japanese businesses to ignore China, they can also no longer expand in the country without careful considerations of possible implications and repercussions from Beijing's deteriorating relationship with the West.

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