Korea Ratings: Stricter Real Estate Finance Regulations to Accelerate Polarization Among Securities Firms

Korea Ratings predicted on April 29 that the polarization between large and small-to-midsize securities firms will intensify due to strengthened regulations on real estate finance.

Yoon Sojung, a researcher at Korea Ratings, made this forecast during a webcast titled "Securities: The Changed PF Environment, Differentiated Response Capabilities Despite Alleviated Burdens" held on the same day.

The Financial Services Commission is scheduled to announce measures in June aimed at strengthening the soundness and liquidity management of securities firms. These measures include the introduction of a cap on total real estate finance exposure and the differentiation of risk values in the net capital ratio (NCR).

Researcher Yoon stated, "The total real estate finance exposure for most securities firms is regulated at a level within 100% of their equity capital, so the regulatory impact is limited." However, she also noted, "If the risk values related to real estate finance are generally raised, there is a possibility that the risk-taking capacity of small-to-midsize securities firms could decline."

She added, "Depending on the business and financial response capabilities to the changing real estate finance market and regulatory environment, the polarization of the real estate finance business base is expected to continue."

However, Meritz Securities was found to be the only securities firm rated by Korea Ratings with total real estate finance exposure exceeding 100% of its equity capital.

Korea Ratings explained that despite the ongoing restructuring of project financing (PF), the exposure of the securities industry has actually increased due to new transactions. According to Korea Ratings, the total PF exposure of securities firms rose by 4.5 trillion won, from 26.3 trillion won in June last year to 30.8 trillion won.

Researcher Yoon assessed, "PF and bridge loan transactions were active mainly among some large firms," and "for small-to-midsize firms, bridge loan contingent liabilities continued to be converted into on-balance sheet liabilities, leading to a decline."

For large firms, the scale of real estate PF exposure increased from 18.3 trillion won to 22.7 trillion won during the same period. In terms of recoveries and resolutions, which can be seen as the results of restructuring, large securities firms recorded 4.5 trillion won. However, new refinancing transactions amounted to 8.8 trillion won, resulting in an increase in exposure compared to the end of June.

Yoon explained, "Large firms such as NH Investment & Securities, Korea Investment & Securities, and Meritz Securities significantly increased new transactions focused on high-quality PF."

Small-to-midsize firms showed similar levels, with a slight increase from 8 trillion won to 8.1 trillion won. She said, "Except for a few companies, most are focusing on resolving distressed assets due to PF losses," and "new business has also contracted."

Soundness indicators also showed polarization. For large firms, the balance of PF substandard or lower loans decreased from 2.3 trillion won in June last year to 1.9 trillion won in December. In contrast, for small-to-midsize firms, the figure increased by 100 billion won to 2.1 trillion won. Yoon commented, "Due to the inferior qualitative composition of PF exposure at small-to-midsize firms, the proportion of estimated losses among substandard or lower loans is relatively high," and "it appears that little exposure was recovered during restructuring or resolution processes."

The gap in PF asset quality between large firms also widened in the second half of last year. For bridge loans, the substandard or lower ratio improved from 22% to 15% for large firms. In contrast, for small-to-midsize firms, the ratio worsened from 49% to 55% due to further deterioration. She explained, "For small-to-midsize firms, new PF transactions have significantly contracted," and "if the real estate market recovery continues to be sluggish, the polarization of asset quality indicators between large and small-to-midsize firms is expected to persist."

Additionally, the increase in loan loss provisions due to transitions from normal or precautionary to substandard or lower loans was 200 billion won for small-to-midsize firms, higher than the 100 billion won for large firms. However, she projected that the additional provision burden during the one-year transition process would not be significant. She said, "Some small-to-midsize firms recorded high loss rates during the process of resolving non-performing bridge loans, resulting in year-end bridge loan provision ratios exceeding KIS loss rates," and "depending on the qualitative level of remaining bridge loans, the additional provision burden for each small-to-midsize firm will be differentiated."

Korea Ratings expects that it will be difficult for securities firms to incur large-scale deficits solely due to provisions. She said, "The possibility of large-scale deficits due to PF provision burdens is considered low," but also explained, "Given the weaker business base competitiveness of small-to-midsize firms, for some companies, remaining provisions may act as a burden, making it difficult to improve profitability."

Korea Ratings plans to monitor the loss absorption capacity and risk appetite of securities firms. Firms with a high remaining provision burden, calculated as additional provisions divided by annual operating profit before provisions, and those with rapid new business growth, will be the focus of risk management.

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