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Factors Affecting the Profit Model of a Securities Company

External and internal factors affect the profit model of a securities company. External factors include demand, market environment, and policies. Internal factors include strategies and capabilities. For Chinese securities companies, external factors are the primary factors, while internal factors are secondary.

External Factors

From the day a Chinese securities company is first founded, external factors will always have the greatest influence on the profit model. External factors dictate the business composition of a securities company. They are the main reason behind the identical profit models across the securities industry (see Figure 4.1).

Demand Helping with the market financing efforts of those who need capital is a mission of securities companies and most investment banking businesses. A huge demand for direct financing is an important driving force for the expansion of the securities market. In 2010 and 2011, boosted by government policies that encouraged direct financing, equity financing made a great leap forward. The investment banking business has since been growing in securities companies.

From a different perspective, the factor of investor demand is the basis and source of such buyer business as brokerage, asset management, investment consultancy, and securities margin trading. The main motivation and driving force for the deployment, expansion, and growth of the various lines of business in a securities company are the needs of different investors, different needs of the same investor, and various needs of an investor in different locations and stages. These are the major factors dictating the profit methods of the corresponding business in a securities company.

Market Environment The market environment refers to the condition of the Chinese securities market. The brokerage business is the mainstay of Chinese securities companies, and commission fees for the active purchase of securities are the major source of their revenues. Brokerage commissions account for 50 percent of the business revenues of securities companies. These business and

Framework for Analyzing Factors Affecting Securities Company Profitability Models

FIGURE 4.1 Framework for Analyzing Factors Affecting Securities Company Profitability Models

revenue patterns lead directly to the fact that the profitability of a securities company depends on the condition of second-tier markets to a great extent. In addition, the proprietary business of securities companies is subject to even greater constraints and influence of the secondary market. In 2007, when the condition of the securities market was good, proprietary business accounted for more than 30 percent of total revenues of securities companies. Too much reliance on the condition of the secondary market means the Chinese securities market is somewhat at the mercy of something beyond its control.

Policies Policies are the most important exogenous factors affecting the profitability model of securities companies. The profitability models of Chinese securities companies are different from those in foreign markets as a result of a different formation process. From its beginning, the securities market has been bearing an unmistakable mark of policies, to which each major change in the profitability models of securities companies is closely related. Policy factors mainly include macroeconomic policies and policies specific to the securities industry.

- Macroeconomic policies: The effects of macroeconomic policies are indirect. They first affect the securities market by influencing the demand of investors or fundraisers, which in turn affects the development of the securities industry and the profitability models of securities companies. For the securities industry, the most influential macroeconomic policies include fiscal policies, monetary policies, and tax policies. The promoting or inhibiting effects of fiscal policies and monetary policies on the economy affect the overall performance of public companies. The rise or drop of liquidity affects the inward and outward capital flows in the securities market. The increase or decrease of taxes changes the investment cost, affecting the investor's investment demand.

- Policies specific to the securities industry: Specific to the securities industry are mainly regulatory policies and approval policies. A securities company is a financial institution in the capital market. Therefore, it is vital to subject it to risk management. Oversight of the securities industry is mainly focused on operation protocols of securities companies, practice of professionals, and investment behaviors of market participants. Regulatory policies provide a background and platform of rules, and thus affect the profitability model of securities companies.

Unlike the registration system in the U. S. securities industry, an approval system has been adopted in China for industrial accession, conduct of business, and outlet deployment. So far, the approval policies focus on the field of innovative business. Some insiders of the securities industry maintain that overly prudent regulatory and approval policies have impeded the development of innovative business of securities companies.

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