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High-leverage brokerages to suffer under stricter ELS market rules

People whose investment was lost demand dismissal of CEOs of banks that sold them high-risk derivative financial product in front of the Financial Supervisory Service, Jan. 16. Korea Times file
People whose investment was lost demand dismissal of CEOs of banks that sold them high-risk derivative financial product in front of the Financial Supervisory Service, Jan. 16. Korea Times file

By Lee Kyung-min

High-leverage brokerages that relied on sales of high-risk derivatives much greater than their capital for profit will experience a considerable drop in income, following a stricter rule on the scandal-ridden financial products such as equity-linked securities (ELS), derivative-lined securities (DLS), exchange-traded notes (ETN).

Most affected are Korea Investment and Securities, KB Securities, Samsung Securities, NH Investment and Securities and Shinyoung Securities whose leverage ratios measured by asset total divided by firm capital stand at a range of between 834 percent and 884 percent. The government recommends that the figure be lower than 1,300 percent.

The concern follows a slew of revisions made by the Financial Services Commission (FSC), announced Thursday amid brewing public criticism over the lax oversight of the 100 trillion won (83.9 billion won) derivative market sparked by immense investor losses coupled with severe dislocation of the financial market in March.

Under the revision, the greater the sales of ELS products compared to its capital, the higher the leverage ratio of a brokerage will jump.

For example, the amount of debt recognized in calculating leverage ratio will increase to 200 percent in 2022 from the current 100 percent for brokerages that show ELS sales double their capital.

The amount will jump to 125 percent for brokerages that sell the products between 50 percent and up to 100 percent of their capital.

The FSC expects the measure will induce up to 20 percent less in sales of the high-risk products over the next three years, leading to a drop of about 13 trillion in sales and 130 billion won in fee income.

Up to 20 percent of the hedge assets must be held in foreign currency, notably U.S. dollars, to prevent a short-term spike in demand for the global reserve currency.

The toughened requirement came in response to a "margin call fiasco" in March, when the won's value plummeted due to a spike in demand for U.S. dollars after local brokerages bought a large amount at once to meet the calls made by overseas brokerages.

Brokerages make margin calls on investors to demand more funds or securities to the "margin account" whose balance has fallen below a certain level following losses. Repeated calls gone unmet will lead to liquidation.

The local sellers of the ELS designed to track the performance of underlying assets including major market indices overseas had to pay their counterparts in U.S. dollars from where the indices tied to the sold products moved, or have their customers' assets liquidated.

The short-term supply shortage of the dollar led to a sharp depreciation of won to 1,280 won against the dollar, March 19, from a usual range of 1,200 won. This also contributed to a panic selling of government bonds, with the yield on Korea's treasuries spiking.




People whose investment was lost demand dismissal of CEOs of banks that sold them high-risk derivative financial product in front of the Financial Supervisory Service, Jan. 16. Korea Times file
People whose investment was lost demand dismissal of CEOs of banks that sold them high-risk derivative financial product in front of the Financial Supervisory Service, Jan. 16. Korea Times file

By Lee Kyung-min

High-leverage brokerages that relied on sales of high-risk derivatives much greater than their capital for profit will experience a considerable drop in income, following a stricter rule on the scandal-ridden financial products such as equity-linked securities (ELS), derivative-lined securities (DLS), exchange-traded notes (ETN).

Most affected are Korea Investment and Securities, KB Securities, Samsung Securities, NH Investment and Securities and Shinyoung Securities whose leverage ratios measured by asset total divided by firm capital stand at a range of between 834 percent and 884 percent. The government recommends that the figure be lower than 1,300 percent.

The concern follows a slew of revisions made by the Financial Services Commission (FSC), announced Thursday amid brewing public criticism over the lax oversight of the 100 trillion won (83.9 billion won) derivative market sparked by immense investor losses coupled with severe dislocation of the financial market in March.

Under the revision, the greater the sales of ELS products compared to its capital, the higher the leverage ratio of a brokerage will jump.

For example, the amount of debt recognized in calculating leverage ratio will increase to 200 percent in 2022 from the current 100 percent for brokerages that show ELS sales double their capital.

The amount will jump to 125 percent for brokerages that sell the products between 50 percent and up to 100 percent of their capital.

The FSC expects the measure will induce up to 20 percent less in sales of the high-risk products over the next three years, leading to a drop of about 13 trillion in sales and 130 billion won in fee income.

Up to 20 percent of the hedge assets must be held in foreign currency, notably U.S. dollars, to prevent a short-term spike in demand for the global reserve currency.

The toughened requirement came in response to a "margin call fiasco" in March, when the won's value plummeted due to a spike in demand for U.S. dollars after local brokerages bought a large amount at once to meet the calls made by overseas brokerages.

Brokerages make margin calls on investors to demand more funds or securities to the "margin account" whose balance has fallen below a certain level following losses. Repeated calls gone unmet will lead to liquidation.

The local sellers of the ELS designed to track the performance of underlying assets including major market indices overseas had to pay their counterparts in U.S. dollars from where the indices tied to the sold products moved, or have their customers' assets liquidated.

The short-term supply shortage of the dollar led to a sharp depreciation of won to 1,280 won against the dollar, March 19, from a usual range of 1,200 won. This also contributed to a panic selling of government bonds, with the yield on Korea's treasuries spiking.




Lee Kyung-min lkm@koreatimes.co.kr

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