The biggest bank in China has emerged as one of the main players in a key segment of the US shadow banking sector.
Bloomberg reports that the Industrial and Commercial Bank of China, China’s biggest lender in terms of assets, has established itself as a “go-to dealer” on the US market for repurchase agreements.
Beijing-based ICBC conducts its US repo business via non-bank unit ICBC Financial Services, which has seen operations grow to $95 billion according to its last regulatory filing, putting it amongst the ranks of America’s top 10 repo dealers.
Repos play a key role in daily trading on Wall Street, giving investors access to short-term loans by providing securities such as Treasuries as collateral. Upon expiration of the agreement the borrower pays back the lender by repurchasing the securities which they originally sold at the start of the transaction.
Hedge funds often avail themselves of repos to obtain cash from money market funds for the purchase of other assets that provide more lucrative yields.
The type of short-term funding that repos provide played a pivotal role in capsizing Lehman Brothers during the Great Financial Crisis, prompting regulators to curb their usage by raising capital requirements and making it too expensive for big banks in the US to stock up on Treasuries or repurchase agreements.
While post-GFC regulations restricts the repo activities of US banks, other financial institutions such as asset managers, brokers and foreign companies are not subject to such onerous restriction, giving players like ICBC a critical edge on the market.
ICBC’s state-side repo operations are well above the $50 billion asset threshold at which the Fed’s capital requirements come into effect, but it’s used an accounting practice called “master netting” obscure its asset scope.
Master netting allows institutions to deduct offsetting agreements called reverse repos, enabling ICBC to reduce its net reported repos to $29 billion and dodge the capital requirements that cap the leverage of its American peers.
This has enabled ICBC Financial Service to boost leverage to ten times that of JPMorgan’s securities unit, with approximately $260 in assets for each dollar of capital.
The success of ICBC’s US repo operations has created concern amongst regulators, with Daniel Tarullo, the Fed’s senior-most banking watchdog until April, warning of the risk posed by shadowing banking and “regulatory arbitrage” in the repo market, and the SEC engaging in negotiations with industry to curb leverage levels amongst dealers.