Financial Supervisory Service Orders Securities Firms to Manage Real Estate Exposure... "Concerns Over Insolvency if Downturn Prolongs"

On the 20th, the Financial Supervisory Service (FSS) announced that it held a meeting with chief risk officers (CROs) and investment banking (IB) executives from 10 domestic securities firms to strengthen the management of real estate exposure risk.

The FSS explained, "Although the risk related to securities firms' real estate exposure is currently at a manageable level, there is a concern about additional defaults if the real estate market downturn prolongs. We had in-depth discussions on ways to stably manage the soundness indicators of securities firms and minimize potential investor losses."

First, the FSS urged the active implementation of various measures to ensure the stable management of real estate project financing (PF) loans. Although the recent upward trend in PF loan delinquency rates has eased, if excessively high delinquency rates persist, there is a risk of reputational damage across the industry, which could increase funding costs.

Accordingly, the FSS emphasized the need to promptly write off non-performing loans classified as estimated losses due to asset soundness deterioration and to swiftly resolve PF loans at risk of default due to declining project viability through external sales or restructuring. They also requested cooperation to ensure that the conversion of PF debt guarantees into long-term loans proceeds smoothly according to each securities firm's schedule.

Furthermore, the FSS stressed securing loss absorption capacity in preparation for a prolonged real estate market downturn. For bridge loans (the stage before the main PF) with uncertain project progress due to loan maturity extensions or permit delays, it is necessary to conservatively operate provisioning standards by sufficiently setting loan loss provisions and applying probability of default (PD) rates that reflect the real estate market conditions.

In particular, since overseas alternative investments involve large amounts per transaction and often include equity or mezzanine and subordinated loans, which can significantly impact soundness, the FSS urged continuous self-inspections to promptly reflect any signs of loss in the financial statements of the investment assets.

Additionally, the FSS called for proactive measures to minimize potential investor losses related to overseas alternative investments. They advised checking whether investor protection mechanisms such as collateral, guarantees, and insurance?which increase the likelihood of recovering investment funds in case of defaults?are effectively functioning, and applying strict screening procedures when products are marketed through retail channels.

They also mentioned the need to reorganize processes to ensure that all investment risks are thoroughly explained during the sales process and to re-examine internal control procedures to prevent violations of public offering regulations when large investment amounts are divided and sold to multiple individual investors.

In response to these requests from the FSS, the securities industry stated, "We agree with the recognition of the risks related to real estate exposure and the direction of the response measures, and we plan to actively respond to uncertainties through proactive risk management measures, including the requested actions."

Hwang Seon-o, Deputy Director of the Financial Investment Division at the FSS, said, "We will conduct daily monitoring of unusual trends such as maturity extensions and regularly check the adequacy of provisioning and real estate exposure evaluations. For securities firms with weak risk management, we will require separate plans, conduct inspections, and hold individual interviews with CEOs to manage them intensively."

He added, "We will also expedite improvements to the net capital ratio (NCR) and liquidity regulatory framework related to real estate exposure, thereby encouraging the strengthening of the securities industry's risk management system. The rapid tightening of the short-term financial market and the resulting liquidity risks for securities firms in the second half of last year placed a significant burden on our economy and financial system, making it crucial to restore market trust in the financial investment industry."

The FSS plans to maintain close communication and active cooperation with the industry on capital market issues and jointly seek response measures going forward.

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