The banking landscape in China is undergoing a significant transformation driven by regulatory changes and evolving market dynamicsRecent initiatives, particularly the self-discipline suggestions concerning non-banking deposits, have prompted banks to reassess their financial strategiesAn insider from a city commercial bank in Southern China described the scenario succinctly: "While non-bank deposits account for a significant portion of our assets, the shift to self-regulation presents both challenges and opportunitiesAdapting to these changes will be pivotal for the long-term viability of our wealth management services."

According to industry experts, non-bank interbank deposits have traditionally served as a critical component for cash management products and short-term investment strategiesAs the rates for these deposits decline, banks anticipate a ripple effect that could lower the returns on various wealth management offerings, shift asset allocation, and necessitate a rethink of product design

A delicate balance must be struck between maintaining liquidity and enhancing profits, all while grappling with intensified regulatory scrutiny, which has inevitably accentuated discrepancies between research capabilities and asset management scales within the sector.

The decline in yields on specific financial products has already manifested in the marketFollowing a wave of downgrades in bank wealth management products sparked in 2022, there has been a notable pivot toward non-bank interbank deposits as essential investment assetsWu Tong, another representative from a city bank's wealth management division, stated, "With rates falling, we are witnessing a migration of funds into the wealth management sphere, as the once lucrative high-yield time deposits are becoming exceedingly rare."

By late November, new self-regulatory frameworks were published, focused on managing the interest rates of non-bank demand deposits

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This change aims to align the returns on these deposits with central bank monetary policy, effectively curtailing the discrepancies that previously allowed for profitable arbitrage opportunities between institutional and typical depositsFurthermore, new rules require banks to incorporate "rate adjustment clauses" within their agreements with corporate clients, enhancing the stability of deposit rates.

While these changes are directed predominantly at institutional investors, individual investors are also likely to feel their effectsCash management products, typically considered low-risk options for investors, will witness a downward trend in yield, echoing the anticipated declines in non-bank deposits and corporate depositsWu Tong elaborated on this shift, stating that as rates continue to be slashed, there has been a noticeable trend where funds previously invested in time deposits are now shifting toward non-bank interbank deposits, which offer rates typically exceeding central bank policy rates by a notable margin.

Non-bank interbank deposits are characterized as deposits made by commercial banks from non-banking financial institutions

One representative from a joint-stock bank highlighted that, "Due to the relatively lower marketization of non-bank deposits, these entities wield considerable negotiation powerWith the backdrop of ongoing interest rate-cutting, interbank deposits have emerged as essential instruments for banks to attract deposits with higher yields, especially since the aforementioned practices of manually topping up interest rates have been curtailed." This financial workaround has gained traction since the cessation of hand-in-hand practices designed to inflate deposit yields.

Recent analyses from various financial institutions illustrate a robust growth in non-bank interbank deposits, with estimates indicating a net increase of approximately 3 trillion yuan from June to October of this year aloneThis figure contradicts seasonal trends observed in deposit growthResearchers predict that by mid-2024, the average interest rate on deposits from listed banks could hover around 2.40%, contrasting sharply with an average cost of interest-bearing liabilities estimated at 2.06%. This discrepancy denotes that non-bank interbank demand deposit rates are diverging significantly from reasonable market parameters.

Current insights reveal a thriving non-bank interbank deposit market exceeding 30 trillion yuan, with demand deposits alone approximating 20 trillion yuan

Research indicates that cash management products in existence hold nearly 2 trillion yuan in non-bank interbank demand depositsShould these rates decline by 30 basis points, we could see an overall dip of 9 basis points in the yields of cash management products.

Moreover, in light of these changing regulatory landscapes, the liquidity of products traditionally favored by banks—like non-bank interbank time deposits—has triggered a reconfiguration in asset allocation strategiesThe new self-regulatory frameworks have specified conditions under which banks can allow early withdrawals on interbank time deposits, establishing that rates for early withdrawals should not exceed the excess reserve rates.

Industry consensus indicates that the days of unconditional early withdrawals from non-bank interbank time deposits are now a thing of the pastConsequently, the liquidity risks associated with cash management and similar products are expected to heighten, compelling banks to reassess their exposure to these assets

An industry analyst offered a cautionary note that, "Due to the anticipated losses imposed by early withdrawals, banks and mutual funds are likely to scale back their investments in these assets substantially, opting instead for investments in assets with unrestricted liquidity."

With the new conditions set for early withdrawals likely to result in interest rate reductions of at least 10 basis points, banks are bracing for potential fluctuations in net asset values following early withdrawalsThe transition from previously favorable terms to conditional withdrawal agreements underscores a pressing need for banks to innovate their investment strategies.

Given these developments, banks are now challenged with identifying viable asset replacements for non-bank interbank depositsAmong the potential alternatives, interbank certificates of deposit and short-duration bonds are emerging as favored choices due to their attractive liquidity and lower risk profiles.

As expressed by Jin Yi, chief fixed-income analyst at Guohai Securities, "The current climate reveals a robust interplay of supply and demand in the interbank certificate of deposit market." This heightened demand stems from banks needing to issue additional certificates to address funding gaps exacerbated by regulatory influences

Simultaneously, interbank certificates are beginning to yield returns exceeding their comparable deposit products by upwards of 3 basis points, thereby enhancing their appeal among non-bank institutions.

Observations conducted during interviews with bank representatives indicate a notable increase in the allocation of bond assets within portfoliosThe shift toward bonds is seen as a strategic maneuver to navigate the declines in deposit rates and facilitate a transition into more stable returns through investments in short-term government and policy financial bonds.

As the banking industry navigates these changes, an evident evolution in product design and distribution is taking place"In response to self-disciplined initiatives, we are likely to see a reduction in cash management products, particularly short-term investment offerings heavily reliant on interbank deposits, as banks look to extend the durations of their investment products," remarked Wang Xing, a regional wealth management leader.

In terms of long-term outlook, many in the banking sector view the recent regulations as constructive for the overall growth of wealth management services

Citic Construction recently forecasted that the impact of these regulations can potentially boost the growth of bank wealth management assets by an estimated 500 billion to 1 trillion yuan.

Nonetheless, concerns persist regarding potential mismatches in the capabilities of banking institutions to manage these growing asset portfolios effectivelyWang Xing reflects a sentiment widely shared across the industry, noting that the ability of banks to adapt to these transitional dynamics through enhanced investment research and robust asset allocation strategies will be crucial for achieving higher quality growth within the sector.

Since the surge of wealth management product market turbulence in 2022, the primary focus within the banking sector has increasingly concentrated on maximizing returns while minimizing volatilityPreviously, short-duration wealth management products significantly utilized mechanisms such as dedicated fund accounts and trust smoothing practices to stabilize their liabilities while enhancing yields—a strategy that proved viable until regulatory constraints limited these arbitrage opportunities