If Principal Loss Is Possible, Products May Not Be Sold... Banks' Sighs (Comprehensive)

Aftermath of DLF and Lime Scandals
Approval of Internal Control Best Practices for Non-Deposit Products like Funds and Trusts
Executive-Level Product Committees Must Oversee Principal-Non-Guaranteed Sales Processes
Excluding MMF and MMT with Low Principal Loss Risk
High-Risk Private Funds Already Restricted... Fee Revenue Decline Inevitable

[Asia Economy Reporters Kangwook Cho, Sunmi Park, Minyoung Kim] "Even now, when customers come looking to subscribe to either private or public funds, the procedures are so complicated that we end up recommending savings deposits. It's difficult to sell through non-face-to-face channels, so if customers want to subscribe, they have to visit the branch. But looking at the model guidelines, it's almost like being told not to sell at all." (A bank's credit executive)

The aftermath of the interest rate-linked derivative-linked funds (DLF) and Lime incidents has ultimately hampered banks' operations. Going forward, the sale of 'non-deposit' products such as funds, trusts, and variable insurance, which do not guarantee principal, will be subject to stricter regulations. Banks must form an executive-level consultative body to oversee product policies, and if problems arise, the board of directors including the CEO will be held accountable. This essentially means that the sale of principal-loss products could be blocked. Amid concerns over profitability and financial soundness deterioration due to the COVID-19 pandemic and ultra-low interest rates, banks are likely to have to change their sales strategies as investment product sales face restrictions.

'Model Guidelines for Internal Control of Non-Deposit Products' to be Reflected by Year-End

According to financial circles on the 29th, the Financial Supervisory Service and the Korea Federation of Banks established model guidelines for internal control of non-deposit products such as funds, trusts, pensions, over-the-counter derivatives, and variable insurance as a follow-up measure to the DLF incident. Banks are expected to incorporate these guidelines into their internal regulations and implement them by the end of this year.

According to the guidelines, banks must form and operate an executive-level consultative body called the 'Non-Deposit Product Committee' to oversee policies related to non-deposit products. The committee must include external experts, the Chief Risk Officer (CRO), the Compliance Officer, and the Chief Consumer Officer (CCO). Particularly, high-difficulty financial products, overseas alternative funds, and products with a risk rating of medium or higher must be directly reviewed. The committee's review results must be reported to the CEO and the board of directors, and related materials must be kept for 10 years in written or recorded form. Ultimately, this means that the CEO and the board cannot avoid responsibility if problems occur.

When selling funds at bank counters, the consultation process is recorded, and customers must read and personally sign the 'Investment Explanation Consent Form' to subscribe to the fund. Additionally, the customer groups eligible for sales and total limits are predetermined according to the product risk.

"All Investment Products Except Savings and Deposits May Have to Be Discontinued"

The market expects that it will become difficult to sell high-risk fund products at banks in the future. While this is welcomed from the perspective of risk management and fostering a mature investment culture, there are concerns that all investment products except savings and deposit products may have to be discontinued. Sales of high-difficulty private funds by banks are already restricted. High-difficulty financial products refer to complex products with derivative components that are difficult for investors to understand and have a maximum possible principal loss exceeding 20%.

A B Bank official said, "It is natural to have additional verification processes when selling investment products, but subscribing to investment products is about aiming for extra returns. Going forward, it seems bank customers will start from the premise of only subscribing to principal-guaranteed products with no risk at all." The official added, "Ultimately, it sounds like being told not to sell investment products."

Sharp Decline in Fund Sales... Concerns Over Defaults from Marginal Companies

Sales of private fund products by banks are sharply declining. According to the Korea Financial Investment Association, as of the end of July this year, the proportion of private fund sales by banks was about 5.10%, down 2.51 percentage points from 7.61% a year earlier. This contrasts with the securities industry's private fund sales proportion, which rose from 82.02% to 83.87% during the same period. Amid financial support burdens due to the COVID-19 crisis and shrinking interest margin income, the asset soundness of commercial banks is also deteriorating. According to the Financial Supervisory Service, the net interest margin (NIM), a profitability indicator for banks' interest income, recorded a record low of 1.42% in the second quarter, down from 1.46% in the first quarter.

Concerns over defaults from marginal companies are also growing. According to the Bank of Korea, the number of marginal companies this year is estimated to exceed 5,000. This is 1,500 more than last year (3,475), which was the highest since statistics began in 2010. In the worst case, the Bank of Korea forecasts that 2 out of every 10 companies this year will be marginal companies.

The four major domestic commercial banks?KB Kookmin, Shinhan, Hana, and Woori?have issued subordinated bonds amounting to nearly 3 trillion won this year to stockpile funds for emergencies. Including KB Kookmin Bank's planned issuance of $500 million (about 600 billion won) in foreign currency amortizing contingent capital securities (subordinated bonds) in the fourth quarter, the total exceeds 3.5 trillion won. This amount far surpasses last year's annual issuance volume of 2.2 trillion won by more than 1 trillion won. Since subordinated bonds have a lower repayment priority and require higher interest rates to be sold, they could become a future funding pressure for banks.

A C Bank official expressed concern, saying, "Sales of all investment products except deposits are already decreasing, and with the strengthened regulations, this trend can only worsen."

Encouraging '15-Minute' Savings Deposits Instead of '1-Hour' Funds

Branches have even started recommending savings deposits instead of investment products. For example, subscribing to a fund takes about 45 minutes to an hour, while a savings deposit can be completed in 15 minutes. Because of the time required to subscribe to funds, some customers reportedly get frustrated and give up. Additionally, some non-deposit products are excluded from bank employees' performance indicators, and the burden of having customer returns reflected in performance evaluations means there is little incentive to recommend investment products.

Big Tech Loosened While Banks Regulated... Falling Behind in Competition

There are also voices expressing concern about growth contraction due to regulations that place all responsibility on banks. In particular, there are criticisms that banks will inevitably fall behind in competition with big tech companies like Naver Financial, which are not subject to such regulations.

A D Bank official sighed, "Currently, banks are making efforts to strengthen internal controls and protect consumer rights to prevent mis-selling, but if such regulations keep being introduced, it will act as a limit to bank growth. Big tech companies are expanding aggressively in financial services without proper regulation, so banks will naturally fall behind in competition with them."

This content was produced with the assistance of AI translation services.