China's securities watchdog is planning to allow select asset management units of brokerages to launch private equity funds for the first time as soon as this year, according to two people with direct knowledge of the situation.
The pilot scheme would enable Chinese securities firms to broaden their revenue streams, reduce reliance on trading commissions and move further towards a model adopted by global investment banks such as Morgan Stanley and UBS.
The move also reflects the China Securities Regulatory Commission's (CSRC) ambition to exert more influence in the country's fast-growing private equity industry.
"The asset management business represents fertile soil for Chinese brokerages, but they also face tough competition in this arena from banks, trust firms and mutual fund managers," said Zhao Xianghuai, analyst at Ping An Securities Co.
The CSRC is drafting rules that would allow the asset management firms to raise money from clients to invest in equities of unlisted companies, said the sources, who declined to be identified because they were not authorised to speak to the media.
Some brokerages, including Citic Securities, Haitong Securities Co and China International Capital Corp, have been allowed to conduct private equity investment using their own capital.
Two brokerages -- Orient Securities Co and Guotai Junan Securities Co -- have established asset management units, seeking to compete more effectively with much bigger mutual funds to manage wealth from increasingly rich Chinese, and more securities firms are likely to follow suit.
Chinese brokerages are rushing to diversify their businesses as incomes from traditional trading commissions slide amid market sluggishness and cut-throat competition.
Regulators have in the past few years introduced margin trading and short selling, launched a Nasdaq-style startup board and allowed brokerages to establish separate asset management units with a goal to help them transform their business models.
Currently, brokerages are still heavily reliant on commission incomes, with their investment banking fees highly volatile, and assets under management totalling merely several dozen billion yuan combined, which is negligible compared with China's 2.4 trillion yuan ($364.3 billion) mutual fund industry.
In contrast, Wall Street bank Morgan Stanley derives more than a quarter of its non-interest income from asset management, which includes private equity, infrastructure and real estate investments, according to the bank's 2009 annual report.
Swiss bank UBS also counts private equity as an important asset class in its global asset management business.
Allowing brokerages to launch private equity funds would also give the CSRC more power in China's nascent but booming private equity industry, which Beijing hopes could channel excessive liquidity into the private sector and reduce the risk of asset price inflation.