Chinese insurers could raise their allocations to trust plans even further now that there's more choice following a change in government rules. It's not a given, though.

Already totalling Rmb1.27 trillion ($185 billion) and accounting for 7.74% of all investment assets held by insurers as of end 2018, according to official data, the Chinese Banking and Insurance Regulatory Commission (CBIRC) had been looking to better regulate the potential risks.

But the new rules announced with immediate effect on July 1 are also meant to direct insurance funds to better serve the economy through trust plans.

Melody Yang

“It’s really a relaxation in terms of the eligibility of the trust companies. This is really a big and welcoming change,” Melody Yang, a Beijing-based partner at Simmons & Simmons, told AsianInvestor. “Insurance companies will have wider choices when they wish to invest into a trust [plan].” 

Trust companies are often associated with shadowy investment practices in China but they have evolved into an important part of the country's asset management industry as regulatory oversight has been tightened and professional standards have been raised. Trust products are mostly placed with qualified investors and can be used to access alternatives or used to fund higher-risk borrowers.
 
Previously, insurance companies could only invest in trust plans issued by trust companies that had not been sanctioned in any way for at least three years. 

However, under the new rules the corresponding bar has been lowered to one year and will only apply to any “serious administrative punishment" doled out by the regulator.

The CBIRC, and its predecessors the China Banking Regulatory Commission (CBRC) and China Insurance Regulatory Commission (CIRC), have been tightening up their control of trust companies and it’s been common for them in recent years to issue administrative orders or fines. 

In the past three years or so, half of the roughly 80 trust companies in existence in China have received been fined or punished in some way, Yang said. 

Trust plans are associated with China's shadow banking system. Wealth management products (WMPs) issued by banks invest in these vehicles and since some of them give out loans to companies or individuals at higher interest rates, it's a way for banks to keep loans off their balance sheets and circumvent capital reserve requirements.

In response, industry regulators have strengthened the rules covering WMPs and included banks' trust holdings in the central bank’s Macro Prudential Assessment framework. They have also introduced more stringent restrictions on transactions between banks and non-bank financial institutions, including trust companies.

RELAX AND RESTRICT

Since insurance companies can gain more exposure to private equity and private debt via trust products, just when returns on more traditional asset classes like bonds are low, Yang expects more insurance money to head their way in the wake of the new rules.

However, Terrence Wong, director for insurance at Fitch Ratings, is not anticipating dramatic change in the asset allocation strategies of Chinese companies.

Terrence Wong

The CBIRC wants to encourage insurers to invest in better-quality trust products but is also tightening the screws in some areas, Wong told AsianInvestor.

“[It's true that] insurance companies can now deal with more trust companies … but while one aspect is relaxed, other aspects have become more restrictive,” he said. 

For example, the  regulator is introducing more controls over the underlying assets held in trust plans. There are also requirements on credit ratings and to help curb concentration risks. (see table below)

Still, with trusts offering yields of 4.5% to 7%, depending on their terms, ratings or the collateral they hold, and Chinese interest rates set to stay low, it's clear insurer demand for trust plans will remain strong, Wong said.

Trust products are also attractive to life insurers because they are able to match the duration of their insurance liabilities to the duration of trust products, which can potentially range from three years to 10 years, he added.

NEW RULE HIGHLIGHTS

  1. Insurers can only invest in trust plans issued by companies that have net assets of at least Rmb3 billion and have not received serious administrative penalties in the past year.
  2. One insurer’s investment can only account for at most 50% of the funds in a single collective trust product (to minimise concentration risk).
  3. Trust companies must arrange third-party credit enhancements if a collective trust plan’s underlying assets are non-standard credit assets.
  4. Insurers have to report to CBIRC within 15 working days if the trust products don't invest directly in the underlying assets.