Stephen Hawking – who has just launched a weibo account in China (see World of Weibo, this issue) – is associated more with black holes and physics than the financial markets. But sixteen years ago the British scientist endorsed an online fund launched by Egg, an internet bank, as part of an advertising campaign that featured the cosmologist hurtling through space.
Egg’s platform allowed retail investors to buy and sell unit trusts at discounted rates. But it didn’t prove a great success and was soon swept away by the traditional fund houses. In 2004 Egg sold its fund supermarket to Fidelity.
Hawking’s decision to endorse that investment platform will be treated by his biographers as little more than an oddity in his illustrious career. But more recently a host of Chinese celebrities have learned the hard way that endorsing investment products is a risky business, as a slew of frauds and bankruptcies casts doubt over the country’s online financial industry.
The golden couple is in trouble…
WiC readers may remember our coverage of the so-called “wedding of the century” last October between Angelababy (described by the Daily Mail as “China’s Kim Kardashian”) and acting heartthrob Huang Xiaoming.
The Rmb200 million ($31 million) celebrations set the media abuzz with a gala of product placements. Everything from the diamond ring to the floral arrangement were said to have been sponsored by advertisers, while guests at the wedding were shuttled around in a fleet of Rolls-Royces and Mercedes provided by the online lending platform Aicai, in which Huang is an investor (see WiC300).
But Huang’s willingness to endorse a wide array of products – especially in online financial services – has created a public relation crisis. According to 21CN Business Herald, a month after his wedding, Huang signed up as an ambassador for peer-to-peer (P2P) financing firm Donghongqiao. In December he showed up at a promotional function as the firm’s “celebrity partner” and his image appeared in advertisements assuring retail investors that Donghongqiao’s loans and investment products would help them “dream their dreams” (its slogan).
Donghongqiao has since proven more of a nightmare than a dream. Indeed, 21CN Business Herald reported that in recent months the company has been failing to repay its customers. Many have vented their anger on Huang’s Sina Weibo account and demanded their money back. “I invested in Donghongqiao because of your endorsement. My Rmb4,000 – this semester’s tuition fee – is now gone,” read one of the top comments, written by a former fan of Huang.
Why is P2P lending so popular?
The sector started to get going in 2009 when monetary tightening by the Chinese central bank choked off liquidity to needy borrowers – mostly smaller private sector firms and property developers.
Meanwhile, a combination of paltry saving rates and poor stock market performance persuaded more retail investors to plough their cash into the types of funds that offer higher-return loans.
At root P2P lenders work as a platform to match the two sides: smaller firms get the loans and retail investors are promised juicy interest rates, far above what they get for depositing money in a standard bank account.
There were about 1,400 P2P micro-financing firms in operation in China by early 2014 and Xinhua reported that the number had increased to 2,527 as of last month. (Caixin Weekly has estimated that about 4,000 P2P lending websites have been set up since 2001.)
Most of these P2P firms started out as simple microloan providers. But just like other shadow banking activity in China, the crowdfunded lending model has often evolved into something more inscrutable, thanks to a lack of regulatory oversight.
Take Donghongqiao as an example. According to 21CN, the company is just one of the P2P units linked to Shanghai Kuailu, an investment firm which spent Rmb200 million last year on the distribution rights to martial arts flick Ip Man 3. Before the movie’s debut last month, Kuailu packaged those rights into different wealth management products and sold them via various P2P platforms including Donghongqiao.
Effectively retail investors were lending money to Kuailu to bet on the performance of Ip Man 3 at the box office. As regulators cracked down on box office fraud, many of the P2P units linked to Kuailu have run into redemption troubles (see WiC317). The Wall Street Journal reported this week a crisis-management specialist has been put in charge of sorting through up to $1.5 billion in Kuaili’s liabilities, while the company has stopped meeting redemption calls from some of its 250,000 clients.
Have other celebs been tainted?
While P2P lending is a financial innovation imported from the West, Chinese entrepreneurs have also come up with their own newer ‘offline-based’ business model.
In this case, the online platform serves primarily as a marketing window to encourage lenders and borrowers to meet face to face, often in the company’s office.
These P2P matchmakers say that they can guarantee that lenders will be repaid by taking collateral from borrowers to ensure they do so. Such lending models theoretically pose lower risks and thus offer lower returns. Still, that doesn’t rule out the chances of retail investors getting scammed. Earlier this month, the Shanghai police arrested 21 people linked to an investment firm known as Zhongjin Capital (or Wealthroll.com according to its P2P website) on suspicion of “illegal fundraising”. Zhongjin has been well-known in Shanghai as the sponsor of a popular TV dating show. Shanghai Daily said it has also built up a sales team comprised of attractive young women. Between July 2012 and January of this year, it raised Rmb34 billion from 130,000 investors for its principal investment products alone.
However, Zhongjin is now being accused of defrauding investors with “non-existent programmes”, and exaggerating performance reports, according to a statement from the Shanghai authorities.
The company’s financial controller was then detained as he attempted to board a flight out of Shanghai this month. These are embarrassing revelation for the celebrities who have appeared on Zhongjin’s advertisements. One of them is Pan Xiaoting, an actress best known as the “Queen of Billiards”. Also named and shamed is renowned economist Larry Lang, who has appeared on economic forums hosted by Fanya Metals Exchange, another P2P financing firm that disguised itself as a metals exchange (see WiC298).
Fanya pulled in Rmb40 billion from retail investors but has since gone under. Lang’s image appeared on one of its promotional pamphlets, under the catchy slogan: “Pricier than gold, safer than stocks”.
State broadcaster CCTV has also suffered reputational damage. Caixin Weekly has reported that at least nine internet finance firms had purchased expensive advertising slots on CCTV since the beginning of 2014, including Ezubao, another fraudulent firm dubbed by Xinhua as “China’s biggest Ponzi scheme” surpassing Fanya (see WiC313).
How have the authorities reacted?
“Ezubao, Kuailu, Zhongjin, Fanya… four P2P and wealth management firms, worth tens of billions each, have gone under in recent months. Where are our fatherly regulators?” a columnist asked in Sina Finance.
Certainly, the authorities are trying to tighten control over P2P marketing, with 17 central government bodies jointly formulating new guidelines for how internet finance products can be advertised. There will be bans on commercial speeches relating to promises of high returns and the new rules will put an end to ads featuring celebrities and influential people such as Huang. The government has also imposed stricter regulations on releasing information (such as the details of shareholders and senior executives).
This follows another set of draft rules published by the China Banking Regulatory Commission in December last year. Under the planned regulatory regime – the first of its kind in the P2P sector – the online platforms have to register with local financial regulators and are banned from using crowdfunding for investment purposes.
The thrust of the rules prevents P2P sites from raising or lending money themselves, as well as distributing wealth management products, and returns them to their original role of neutral intermediary between lenders and borrowers.
“Many online lenders have strayed from the role of information intermediary,” the CBRC said in a separate statement, warning that it wanted to “cleanse the market”.
The changes, which are yet to be finalised by the CBRC, look extremely strict. But Sina Finance reckons the banking regulator is reluctant to crack down too heavily on a sector that was being lauded as financial innovation not long ago. (Indeed, internet-based lending was being talked about excitedly by reform-minded financial regulators as a way of shaking up the big state banks’ virtual monopoly of lending.)
Do P2P scams pose systemic risks?
Lending by P2P firms surged to Rmb982 billion last year, up from Rmb253 billion in 2014, according to Wind Information, a Chinese data firm. Given that most P2P loans are repaid quickly (typically within months), the value of total loans outstanding as of December 2015 was only Rmb439 billion. That is relatively insignificant against the backdrop of China’s overall loan supply. Total social financing, the official gauge of credit, was Rmb15.3 trillion last year. That said, P2P lending was the fastest growing segment in the Chinese financial system.
Riskier lending in shadow banking does have a tendency to find its way back into the financial system. One particular concern is homebuyers using P2P financing. In March, executives from the People’s Bank of China stated publicly that P2P loans for downpayments on homes were illegal, and vowed to act against firms granting this kind of credit. Nonetheless, part of the recent surge in real estate prices (home prices in Shenzhen have climbed more than 50% year-on-year) has been fuelled by such unregulated financing. Estimates from WDZJ.com, a P2P data firm, put the total amount of P2P cash that has seeped into the system at Rmb5 billion, but that figure doesn’t include mortgages that borrowers have been granted by banks after using P2P funds for their initial downpayments.
Despite stringent controls, down-payment “loans in disguise” were still available, the Shanghai Daily reports. But there have been some high profile exits.
Licai, a P2P lending platform backed by Lianjia, an online real estate broker, is an example. It was set up in November 2014 and needed just six months to grow into the fourth largest P2P financier in the country. By the time it shut down its fast-growing ‘downpayment’ unit last month – apparently due to pressure from the central bank – Licai had lent up to Rmb3 billion in that area.
Newer entrants might find it harder to grow so quickly, with National Business Daily reporting this week that high-end office blocks in Shanghai are refusing to rent space to P2P lenders. Partly that’s because too many of these companies have vanished overnight. But the main reason is that hundreds of people later turn up at the empty offices, demanding their money back. This deluge of angry customers pulls down the value of the landlord’s building, the newspaper’s source said.
Local governments are acting too. On Thursday, Caixin Weekly reported that the local governments of Beijing, Shanghai and Shenzhen have temporarily stopped approving the registration of new companies whose names include phrases such as asset management, exchange, funds, investment, crowdfunding and last but not least, peer-to-peer lending. It is unclear how long the moratorium will last, as the magazine also reported that the central bank has told financial regulators to work with local governments to inspect internet financial firms. “This is to guard market entry closely, so as to prevent and control risk at the root,” an unidentified source told Caixin Weekly.
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