China Securities Sector · China Securities Sector October 7, 2013 Wong Chi Man—Senior Analyst (852) 3698-6317 [email protected] John Mulcahy—Head of Research EPS Growth

1

China Securities Sector

October 7, 2013

Wong Chi Man—Senior Analyst

(852) 3698-6317

[email protected]

John Mulcahy—Head of Research

(852) 3698-6889

[email protected]

Multiple Drivers to Support Multi-year Growth; The Party’s Just Begun The story begins to materialize. In the past 18 months there has been much talk about dereg-

ulation, re-leverage and recovery of return on average equity (ROAE) as the key investment

themes of the China securities sector. The story is no longer a castle in the air and we see a

mild rebound in leverage and in ROAE in 1H13, thanks to improving stock trading turnover and

increasing revenue contribution from capital-based products. For instance, net interest income

from margin financing and securities lending (MFSL) rose >2x year-on-year (YoY) in 1H2013 to

RMB6.69bn.

Sustainable ROAE recovery—firing on all cylinders. We believe the ROAE recovery in 1H13

is just the beginning and the improvement will continue, driven by: (i) daily turnover in 2H13E is

likely to surge >70% YoY due to a very low base last year, based on data in Q3; (ii) no signs of

weakening in strong growth of MFSL balance; and (iii) initial public offering (IPO) activities are

very likely to resume in Q4. We are projecting fund-raising through equities to surge 35% YoY

in 2014E.

Not just a one-year story. Apart from the aforementioned near-term positives, we see drivers

to increase leverage and boost ROAE in the next few years: (i) MFSL balance rose from 0.39%

of total market cap at end-2012 to 1.05% at end-September 2013 and there is large room to

grow—Taiwan’s MFSL balance has exceeded 5% of total market cap in the past; (ii) cumulative

IPO pipeline is enough to support investment banking business for the next three years; (iii)

more than 90 brokers still command >50% market share in stock brokerage, which provides

ample scope for big players to grab market share; and (iv) large securities companies have

been actively raising leverage through bonds in the past 12 months and will continue to do so.

Buy HTS and CGS. We are initiating coverage on CITIC Securities (CITICS) and Haitong Se-

curities (HTS). CITICS is the undisputable leader in the industry but its premium valuation with

the lowest ROAE in our sector coverage prompts us to give it a HOLD rating. HTS, as the se-

cond largest securities company in China, is more attractive in terms of valuation (22% discount

in terms of 2014E PER and 9% discount based on 2014E PBR compared with CITICS) with

highest EPS growth (38% CAGR between 2012 and 2014E). Meanwhile, we reiterate our BUY

call on CGS. The deep discount to CITICS (50% discount in terms of 2014E PER and 26%

discount in terms of 2014E PBR) is not justifiable on the back of a much higher ROAE (11.2%

vs. CITICS’ 7.5% in 2014E).


Last

Price TP

Company Ticker Rating

(HK$) (HK$)

CITICS 6030 HK 16.32 15.50 HOLD

HTS 6837 HK 12.20 14.40 BUY

CGS 6881 HK 5.29 7.60 BUY

FY2014E

Company PER PBR ROAA ROAE

(x) (x) (x) (%)

CITICS 20.5 1.53 3.0 7.5

HTS 16.0 1.39 3.6 9.0

CGS 10.3 1.13 3.2 11.2

Sources: Company, CGIHK Research

Updated as of October 4, 2013

Figure 1: Ratings

Sources: Company, CGIHK Research estimates

Valuation Table

Company Ticker Rating Price (HK$) Market cap (US$m) 2012 2013E 2014E 2012 2013E 2014E 2012 2013E 2014E

CITIC Securities 6030 HK Equity HOLD 16.32 22,099 34.5 28.8 20.5 1.66 1.61 1.53 2.3 1.5 1.7

Haitong Securities 6837 HK Equity BUY 12.2 18,772 31.5 21.0 16.0 1.62 1.51 1.39 1.2 1.8 2.4

China Galaxy Securities 6881 HK Equity BUY 5.29 5,112 18.2 13.8 10.3 1.83 1.24 1.13 n.a. 1.1 1.5

Simple average 28.1 21.2 15.6 1.70 1.45 1.35 1.7 1.5 1.8

Weighted average 31.5 24.0 17.5 1.66 1.53 1.43 n.a. 1.6 2.0

PER (x) PBR (x) Dividend yield (%)

2012 -2014E

Company Ticker 2013E 2014E CAGR (%) 2012 2013E 2014E 2012 2013E 2014E

CITIC Securities 6030 HK Equity 17.8 38.5 27.8 4.9 5.7 7.5 2.7 2.6 3.0

Haitong Securities 6837 HK Equity 47.2 29.5 38.1 5.8 7.4 9.0 2.7 3.2 3.6

China Galaxy Securities 6881 HK Equity 29.5 31.4 30.5 8.5 10.7 11.2 2.3 3.1 3.2

Simple average 31.5 33.1 32.1 6.4 7.9 9.3 2.6 3.0 3.2

Weighted average 31.1 34.0 32.3 5.7 6.9 8.5 2.6 2.9 3.3

EPS Growth (%) ROAE (%) ROAA (%)

2

BIG PICTURE: THE WORST IS OVER

Reached the turning point. Figure 1 shows two major problems encountered by the

China securities industry between 2009 and 2012: (i) declining return on average as-

sets (ROAA) due to poor market conditions (weak trading turnover, pressure on bro-

kerage commission, lacklustre performance of the A-share market, etc.); and (ii) strin-

gent regulatory control leading to limited product offerings and falling leverage. Howev-

er, we believe the industry reached the turning point in 1H13, i.e. ROAA, ROAE and

leverage found a bottom and turned around. In this report, we discuss various factors

from a short-term and long-term perspective to show that the recovery trend is sustain-

able.

ROAE Recovery on Track

Figure 1: ROAA, ROAE and Leverage of China Securities Industry

# ROAA and ROAE for 1H2013 is annualized.

Sources: Securities Association of China, CGIHK Research

2008 2009 2010 2011 2012 1H2013#

Implied leverage (x) (RHS) 4.16 3.82 3.80 2.96 2.49 2.54

ROAA 3.3% 5.8% 3.9% 2.2% 2.0% 2.7%

ROAE 13.7% 22.2% 14.8% 6.6% 5.0% 6.9%

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Short-term Factors Driving the Recovery

Strong rebound of trading turnover in 2H13E on YoY basis. A-share market daily

turnover dropped to RMB129bn last year, the lowest level since 2008. Thanks to ex-

pectations of more economic reforms under the reign of the new team of top govern-

ment officials and signs of stabilization in the overall economy since Q3 2013, trading

activities have regained momentum and average daily turnover reached RMB193.6bn

in the first nine months of this year. In particular, due to the very weak turnover in

2H2012, average daily turnover in August and September this year surged 97% and

111% year-on-year (YoY), respectively. For the sector as a whole, net commission

from agency brokerage still accounted about 43% of total revenue in 1H2013. A strong

rebound in trading activities in 2H2013 should continue to offer solid support to the

industry’s ROAE recovery.

Less pressure on commission rate. Apart from lacklustre trading activities, in-creased pressure on brokerage commission rates as a result of the rising share of in-ternet trading has also been a key factor eroding the profitability of securities compa-nies. Although major players still see the commission rate declining gradually on a me-dium- to long-term basis, we have seen some signs of stabilization in 2012 and 1H2013 (Figure 3). We believe the stabilization in commission rates is attributable to two main factors: (i) some market players are no longer willing to cut commission rates aggressively after a few years of declining profitability; and (ii) increasing trading activi-ties related to margin financing, which usually command a higher commission rate (Figure 4).

Figure 2: Average Daily Turnover of the A-share Market

Sources: Wind Info, CGIHK Research

4

Figure 3: Net Commission Rate of Agency Brokerage Figure 4: Securities Purchased with Borrowed Money/A-share Total Trading Value (%)

Sources: Securities Association of China, CGIHK Research Sources: Wind Info, CGIHK Research

0.126%

0.117%

0.095%

0.080%0.078% 0.078%

0.050%

0.060%

0.070%

0.080%

0.090%

0.100%

0.110%

0.120%

0.130%

2008 2009 2010 2011 2012 1H13

3.0

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11.0

Jan-13 Feb-13 Mar-13 Apr-13 May-13 Jun-13 Jul-13 Aug-13 Sep-13

Uptrend of margin financing balance remains changed. As one of the most suc-cessful capital-based businesses, we have not seen any sign of abatement in the surg-ing margin financing and securities lending (MFSL) balance. Although there was a short-term decline in the balance between June and July due to interest-rate volatility caused by the “cash crunch”, the uptrend resumed quickly once the market began to stabilize. The balance reached RMB289bn at end-September, up 221% from end-2012. The growing balance should bode well for interest income related to MFSL in 2H2013. According to the Securities Association of China (SAC), net interest income from MFSL rose 206% YoY in 1H2013 to RMB6.69bn. (Please refer to the next section for medium to long-term outlook of this business.)

Figure 5: MFSL Balance (RMB bn)

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Potential resumption of IPO activities in Q4. Prolonged suspension of IPO activities

has affected the investment banking business of securities companies significantly. On

an industry-wide basis net revenue from underwriting and sponsoring business

dropped 26% YoY in 1H13. The impact on leading players such as CITICS is even

bigger, with net revenue down 60% YoY (excluding financial advisory revenue). Since

IPO activities have been suspended for nearly a year, the authorities are facing in-

creasing pressure to resume IPOs. Based on the latest news flow and the tone of

statements from the China Securities Regulatory Commission (CSRC), we believe the

IPO market is likely to resume after the Communist Party Plenary Meeting in Novem-

ber. CITICS will be the major beneficiary thanks to its strong IPO pipeline (Figure 6)

among the listed peers in Hong Kong.

Figure 6: IPO Pipeline at End-Q3 2013 (Publicly Announced Deals Only)

Note: Suspended IPO applications are not included.

Sources: CSRC, CGIHK Research

6

Figure 7: CITICS IPO Pipeline (Publicly Announced Deals Only)

Note: Suspended IPO applications are not included.

Sources: CSRC (end-Sep 2013, CGIHK Research

CITICS (6030.HK)

Shanghai main board

English name Chinese name

Lingbao Gold 灵宝黄金

Toly Bread 沈阳桃李面包

Baosteel Packaging 上海宝钢包装

Baiyun Electric Equipment 广州白云电器设备

Haitian Precision 宁波海天精工

JCHX Mining Management 金诚信矿业管理

Phoenix Metropolis Media 凤凰都市传媒科技

Opple 欧普照明

Flyco 上海飞科电器

Gan & Lee Pharmaceuticals 甘李药业

China-Singapore Suzhou Industrial Park Development 中新苏州工业园区开发集团

Daimay Automotive Interior 上海岱美汽车内饰件

Huayou Cobalt 浙江华友钴业

Zhongjiaotongli Construction 中交通力建设

China Railway Materials 中国铁路物资

Haitian Food 佛山市海天调味食品

Jiangsu Pacific Quartz 江苏太平洋石英

China Postal Express & Logistics 中国邮政速递物流

China National Nuclear Power (Jointly sponsored with UBS) 中国核能电力

Shenzhen main board


Hylink Digital Solution 华扬联众数字技术

Nanjing B.C. Sports Products 南京边城体育用品

Suntak Circuit Technology 深圳市崇达电路技术

Yifeng Pharmacy 益丰大药房连锁

SKSHU Paint 三棵树涂料

Guangdong Evergreen Feed Industry 广东恒兴饲料实业

ChiNext


Urovo Technology 深圳市优博讯科技

Broadex Technologies 博创科技

Pingtech 北京品恩科技

Shanxi Oriental Material Handling 山西东杰智能物流装备

Beijing Hengtong Innovation Luxwood Technology 北京恒通创新赛木科技

Tianhe Defense 西安天和防务技术

7

Figure 8: HTS IPO Pipeline (Publicly Announced Deals Only)

Sources: CSRC (end-Sep 2013), CGIHK Research

HTS (6837.HK)

Shanghai main board


Shanghai Hile Bio-pharmaceutical 上海海利生物技术

Shenzhen main board


Jiangsu Danmao Textile 江苏丹毛纺织

Fundamental Media 上海基美文化传媒

Ideal Jewelry 深圳市爱迪尔珠宝

Hengyuan Hair Products 许昌恒源发制品

Dohia Home Bedding 湖南多喜爱家纺

Silver Dragon Prestressed Materials 天津银龙预应力材料

Youngsun Intelligent Equipment 杭州永创智能设备

Jingda Machine 宁波精达成形装备

Shanghai Beite Technology 上海北特科技

Ciming Checkup 慈铭健康体检管理集团

ChiNext


Zhejiang Tiansong Medical Instrument 浙江天松医疗器械

Sichuan Goldstone Orient New Material Equipment 四川金石东方新材料设备

Sunniwell Digital 北京朝歌数码科技

Wuyang Technology 徐州五洋科技

Jiangsu Lixing General Steel Ball 江苏力星通用钢球

Shenyang Sinqi Pharmaceutical 沈阳兴齐眼药

Ningbo Baosi Energy Equipment 宁波鲍斯能源设备

Xi'an Wanlong Pharmaceutical 西安万隆制药

Sunrise Technology 杭州炬华科技

East UPS 广东易事特电源

8

Figure 9: CGS IPO Pipeline (Publicly Announced Deals Only)

Sources: CSRC (end-Sep 2013), CGIHK Research

CGS (6881.HK)

Shanghai main board


Dalian Wanda Commercial Properties 大连万达商业地产

Wuika Times Department Stores 新疆汇嘉时代百货

Shandong Innovative Metal 山东创新金属科技

Guilin FuDa 桂林福达

Huaibei Coal Mining 淮北矿业

Guotai Junan Securities (Jointly sponsored with Huarong Securities) 国泰君安证券

Shenzhen main board


Xidian Pharmaceutical 吉林省西点药业科技发展

Suzhou Goldengreen Technologies 苏州恒久光电科技

Asymchem 凯莱英医药集团（天津）

ChiNext


e-Techstar 北京恒泰实达科技

Chaozhou Three-Circle 潮州三环（集团）

Recovery of bond issuance. Besides the suspension of IPOs, the interest-rate vola-

tility caused by the “cash crunch” in June prompted some companies to postpone bond

issuance. The value of bond issuance in June tumbled 53% from the level in May

(Figure 10). But the progress of bond issuance has been largely back to normal in the

past two months.

Figure 10: Value of Bond Issuance (RMB bn)


9

Rebound of stock market to offer downside protection. The CSI 300 Index has

rebounded by more than 10% from the low point in July on the back of euphoria about

the new reform measures to be launched following the Communist Party Plenary Meet-

ing in November. Unless the outcome of the meeting is very disappointing, we don’t

expect to see a market collapse in the near term. A stabilized equity market should

largely reduce the risk of recording significant losses in the proprietary trading portfolio

of securities companies.

Figure 11: CSI 300 Index


10

Medium-to-Long-term Drivers

MFSL still has large room to grow. At end-September 2013 the balance of MFSL was RMB289bn, representing a leap of 221% from end-2012. The MFSL balance/A-share total market cap consequently rose from 0.39% to 1.05% in the corresponding period. How far can it go? If we look at the stock market in Taiwan, which shares many cultural similarities, we believe MFSL will remain an important growth driver in the next few years. Figure 12 shows that Taiwan’s MFSL balance/total market cap reached more than 5% in 2H1998, though it dropped substantially after the internet bubble burst in 2000. As the Chinese stock market is still at a relatively early stage of development there is room for the MFSL balance to reach 2%-3% of total market cap, in our view. Our assumption of the MFSL balance at end-2013 and end-2014 is RMB320bn and RMB487bn, respectively. Based on the total market cap at end-September, the project-ed MSFL balances imply 1.16% and 1.77% of total market cap. The eligible list for MFSL was expanded from 494 stocks to 700 stocks in mid-September. According to the China Securities Finance Corporation, these 700 stocks represent 80% of A-share trading in Shanghai and 51% of trading in Shenzhen. It sug-gests there is still a lot of room for the Shenzhen Stock Exchange to expand the eligi-ble list in the future, which will continue to support the growth of MFSL balance.

Figure 12: MFSL Balance/Total Market Cap (Taiwan)


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Growing MFSL to support ROAE recovery. In our initiation report on CGS, dated

June 25, 2013, we demonstrated that MFSL business provides a pre-tax return of more

than 10% (Figure 14). As the annualized ROAE of the securities industry in 1H2013

was only 6.9%, a persistent growth of MFSL balance will continue to support the ROAE

recovery trend of the whole industry.

Figure 13: MFSL Balance/Total Market Cap (China)

Figure 14: Simple Illustration of the Return of MFSL Business

Sources: CGS, CGIHK Research

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MFSL balance (RMB bn, LHS) MFSL balance/A-share market cap


12

Re-leverage story remains intact. The leverage of securities companies has declined

in the past few years but rebounded slightly in 1H2013. With a broader range of finan-

cial instruments at their disposal since 2012, securities companies have been actively

adding leverage to improve ROAE. Last year, securities companies issued short-term

commercial paper with a total amount of RMB53.1bn. In the first ninth months of 2013,

debt instruments (short-term commercial paper, corporate bonds and subordinated

debt) issued by securities companies already exceeded RMB293bn, a big jump of 4.5x

from the full-year figure last year. 100% and 81% of debt instruments were issued by

top 10 securities companies (in terms of total asset) in 2012 and the first three quarters

of 2013, respectively. Large brokers have a clear advantage in access to new funds to

develop capital-based business.

Figure 15: Debt Instruments Issued by Securities Companies (RMB bn)


53.1

237.4 55.7

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2012

Q1-Q3 2013

Top 10 securities companies Others

Major brokers: gaining market share from smaller players. In the agency broker-

age business the Top 10 brokers commanded 47.12% market share (equity and fund

trading) in the first nine months of this year, up from 45.67% in 2012. It is encouraging

to see that eight of the Top 10 brokers gained or maintained market share, suggesting

they are gaining market share from smaller players and there is no need for these big

players to fight with each other at this stage. As non-Top 10 players still account for

more than 50% of the market, we believe there is still a lot of room for big players to

grab market share.

13

Potential M&A opportunities to grow market share faster. The table above implies

that more than 50% of the market in the agency brokerage business is shared by over

90 brokers. In such a fragmented market, we believe further industry consolidation is

inevitable. To increase customer stickiness securities companies need to offer wider

product offerings, such as MFSL, bond repos and stock-pledged lending. These prod-

ucts are usually capital-intensive businesses requiring a strong balance sheet. Smaller

players without listing status have limited fund-raising channels to compete with lead-

ing players. As none of the Top 10 Players has more than 10% market share in broker-

age, M&A is an effective way to raise market share and expand client base within a

short period of time. The proposed acquisition of Minzu Securities by Founder Securi-

ties in September may be a prelude to a new wave of M&A activity.

Long IPO pipeline to support multi-year growth. In the previous section we men-

tioned that the authorities are likely to resume IPO activities after the Communist Party

Plenary Meeting in November. As of end-September, 748 companies (176 for Shang-

hai main board, 308 for Shenzhen mainboard and 264 for ChiNext) have already sub-

mitted IPO applications to the CSRC. On average, there were 218 IPOs launched each

year between 2009 and 2012. On that basis the IPO pipeline should be enough to

support the investment banking business of the whole industry for more than three

years. Meanwhile, Premier Li Keqiang has shown that he is much more pro-market

and is reluctant to use administrative measures to intervene in the market. We believe

the risk of IPO suspension should be much smaller in the future compared with the

period under the reign of Wen Jiabao.

Figure 16: Agency Brokerage Market Share (Trading Turnover)

Sources: Wind Info (consolidated basis), CGIHK Research

Q1-Q3 2013 2012

CITIC Securities 6.17% 5.76%

Huatai Securities 5.98% 5.52%

China Galaxy Securities 5.14% 5.14%

Guotai Junan Securities 5.03% 4.84%

Haitong Securities 4.76% 4.54%

China Merchants Securities 4.26% 4.06%

Shenyin Wanguo Securities 4.26% 4.36%

Guangfa Securities 4.05% 4.04%

Guosen Securities 4.03% 4.15%

China Securities 3.44% 3.26%

Total 47.12% 45.67%

14

Figure 17: IPOs Launched between 2009 and 2012 in China

Sources: Wind Info, CSRC, CGIHK Research

Asset management still in its infancy. On a sector-wide basis net revenue from as-set management surged 176% YoY to RMB2.88bn in 1H13, accounting for 3.7% of total net revenue. Securities companies’ entrusted assets under management as a percentage of total RMB deposits in China rose from 2.06% at end-2012 to 3.39% at end-1H2013. However, we estimate about 90% of the balance is attributed to the thin-margin targeted asset management. It implies the balance of the higher-margin collec-tive asset management is only equivalent to an extremely small portion of total RMB deposits in China. The room for the development of the asset management business is still huge, in our view.

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Entrusted assets under management/Total RMB deposits

Figure 18: Securities Companies’ Entrusted Assets under Management

Sources: Wind Info, Securities Association of China, CGIHK Research

15

Other Long-term Potential Growth Drivers

We believe the direction of deregulation remains unchanged and regulators will contin-

ue to support the launch of various pilot schemes for financial innovation to better sup-

port economic development. Since it may be early to quantify some of these potential

growth drivers, we will briefly discuss them below.

Stock-pledged lending. Some securities companies have already offered securities-

based lending services to clients. However, the shortcoming of this service is that it is

provided in the form of stock repo agreements, which require technical transfer of stock

ownership. As a result, the service is not popular to clients and securities companies

seldom mention this business in their annual reports. On the other hand, the launch of

a stock-pledged lending pilot scheme in mid-2013 may be a game changer. This ser-

vice does not involve a technical change in stock ownership and offers more flexibility

with maximum duration of three years. According to press reports, the scale of stock-

pledged lending has already reached RMB28bn, about 10% of the size of MFSL. It has

the potential to become another lucrative capital-based business. (Note: Net interest

income from MFSL accounted for 8.5% of the securities industry’s total net revenue in

1H2013.)

Securitization. In the past few months Premier Li Keqiang reiterated several times the

importance to develop credit asset securitization to “mobilize” existing assets in the

financial system. According to the State Council, securitization products represented

about 32% of bond products issued last year in the US. On the other hand, asset-back

securities issued in the first nine months of this year in China only accounted for 0.17%

of total bonds issued. It suggests a lot of potential business opportunities for securities

companies to explore. However, since the authorities still prefer to develop credit asset

securitization products through pilot schemes, we don’t expect to see a sudden break-

through in market size in the near term.

Figure 19: Bond Issuance Breakdown in the US (2012)

Sources: State Council, Wind Info, CGIHK Research

2,200

4.44

US China

Figure 20: Size of New Securitization Product Issuance (US$bn, 2012)

Securitization products, 32%

Other bonds, 68%

Sources: State Council, Wind Info, CGIHK Research

16

OTC trading, Third Board and market-making. In Q4 2012, the authorities launched

a pilot scheme to allow some securities companies to establish an over-the-counter

(OTC) trading platform for asset management products. It is not a very exciting busi-

ness at the moment but the long-term business potential should not be underestimat-

ed. As the government is encouraging the development of the Third Board to support

financing for small and medium-sized enterprises (SMEs), the OTC platform may be-

come a platform for market-making business, once the regulations allow securities

companies to do so. It would become another capital-based business that creates a

higher entry barrier to fence off smaller players. Meanwhile, market-making (equities,

fixed income and other products) related revenue contributed about 30% of the total

revenue of Goldman Sachs and Morgan Stanley in 2012 while Chinese securities com-

panies only have negligible revenue from market-making.

Figure 21: Revenue Breakdown (2012)

Sources: Companies, CGIHK Research

33.2%

26.8%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

Goldman Sachs Morgan Stanley

Net interest income

Others

Other principal investments

Market making

Commissions and fees

Investment management

Investment banking

17

Stock Recommendation

CITICS leading on all fronts, but fully valued. From Figure 22 it is evident that CIT-

ICS is the undisputable leader in China’s securities industry. It is the leading player in

stock brokerage (in terms of trading volume), investment banking and asset manage-

ment. The company lost the leadership position in terms of net profit in 1H13 due to

weakness in the investment banking business but we expect it to regain the No.1 posi-

tion next year once IPO activities are resumed. At first glance CITICS should be the

best proxy to enjoy the multi-year growth of the securities industry in China. But we

believe CITICS is already full valued with 28% premium in terms of 2014E PER and

10% premium in terms of 2014E PBR over HTS. Although we forecast CITICS’ ROAE

to recover in 2013E and 2014E, it is still difficult to justify its 1.53x 2014E PBR on the

back of 7.5% 2014E ROAE (HTS: 9%). As a result, we only initiate coverage with a

HOLD rating on CITICS with a price target of HK$15.50.

HTS: Second largest player with more attractive valution. From earnings growth

and valuation perspective, HTS offers a more attractive choice to ride on the growth

story of the China securities industry, in our view. We project the company’s recurring

EPS to post a CAGR of 38% between 2012 and 2014E, the highest among the three

major securities companies we cover. Similar to CITICS, HTS’ revenue mix is well-

balanced with 26% net revenue from brokerage commissions, 11.4% from investment

banking, 6.5% from asset management, 17.7% from net interest income and 35.2%

from net investment gains in 1H13. As we mentioned above, HTS is trading at a dis-

count to CITICS in terms of PER and PBR but its ROAA and ROAE is higher than CIT-

ICS in 2013E and 2014E. Therefore we initiate coverage with a BUY call on HTS and

have a price target of HK$14.40.

CGS: Large room to catch up. The revenue mix table (Figure 24) shows that CGS is

a formidable player in the stock brokerage business and it is the third largest player in

terms of trading volume (equity and funds). On the other hand, it’s very clear that the

company still needs to do a lot of work to grow its investment banking, asset manage-

ment and proprietary trading business. The heavy reliance on brokerage is largely at-

tributable to its weak capital base before the IPO in May this year. We believe the H-

share IPO and the potential A-share IPO in 2014 or 2015 will help narrow the gap with

CITICS and HTS. CGS’ MFSL business has already shown signs of catching up. At

end-2012, its MFSL balance was just 76% of HTS’ but at end-August 2013, the bal-

ance was equivalent to 99.5% of the latter. It takes time to build investment banking

and asset management teams but we expect the gap in these areas to narrow gradual-

ly over a few years. Overall, CGS’ 50% discount in terms of 2014E PER and 26% dis-

count to 2014E PBR relative to CITICS is overly conservative and ignores the point

that CGS’ ROAA and ROAE is expected to be much higher than CITICS’ in 2013E and

2014E. The deep discount is not justified, in our view, and we reiterate our BUY rating

with a price target of HK$7.60. In addition, don’t forget the fact the company is the best

proxy to enjoy the strong rebound of average daily turnover in 2H2013 on YoY basis,

thanks to its heavy exposure to the stock brokerage business (52.4% of total net reve-

nue in 1H13).

18

Figure 22: Comparison between CITICS, HTS and CGS (1)

# Disposal gains from China Securities and China AMC are excluded.

Sources: Companies, Securities Association of China, CGIHK Research

CITICS (6030.HK) HTS (6837.HK) CGS (6881.HK)

Stock brokerage market share (equity and funds)

2012 (%) 5.76 4.54 5.14

Q1-Q3 2013 (%) 6.17 4.76 5.14

Ranking 1 5 3

MFSL balance

End-August 2013 (RMB bn) 26.9 13.9 13.8

Market share (%) 10.63 5.49 5.46

Ranking 1 5 6

Net investment gains (Rmb m) #

2009 3,428 888 n.a.

2010 5,736 1,078 314

2011 1,311 1,507 104

2012 3,648 2,403 395

Investment banking

Total equity fundraising (2010 - Sep 2013) (RMB bn) 183.4 78.7 53.9

Market share (%) 9.60 4.12 2.82

Ranking 1 7 13

No. of deals 72 63 21

Average deal size (RMB m) 2,547 1,249 2,567

No. of IPOs 39 31 7

Total bond fundraising (2010 - Sep 2013) (RMB bn) 581.8 164.2 173.6

Market share (%) (securities companies only) 14.65 4.14 4.37

Ranking (securities companies only) 1 7 6

No. of deals 265 76 86

Average deal size (RMB m) 2,195 2,161 2,019

Net revenue from underwriting, sponsoring and financial

advisory (2010-2012) (RMB m) 6,668 2,699 2,029

Asset Management

Major business arm China AMC (59%)

HFT (51%), Fullgoal

(27.775%) n.a.

AUM at end-1H2013 (RMB bn) 247 22.4 (HFT) n.a.

Size of collective asset management (RMB bn) (end-1H2013) 30.2 10.0 6.8

Size of targeted asset management (RMB bn) (end-1H2013) 355 63.3 24.7

19

Figure 23: Comparison between CITICS, HTS and CGS (2)

Sources: Companies, Securities Association of China, CGIHK Research

RMB m CITICS (6030.HK) HTS (6837.HK) CGS (6881.HK)

Stock brokerage 1,982 1,464 1,814

Investment banking 628 639 199

Asset management 217 365 60

Others 306 460 1,555

Net commission and fees 3,133 2,653 2,242

Net interest income 417 995 836

Net investment gains 2,308 1,980 387

Total 5,858 5,628 3,465

Breakdown

Stock brokerage 33.8% 26.0% 52.4%

Investment banking 10.7% 11.4% 5.7%

Asset management 3.7% 6.5% 1.7%

Others 5.2% 8.2% 44.9%

Net commission and fees 53.5% 47.1% 64.7%

Net interest income 7.1% 17.7% 24.1%

Net investment gains 39.4% 35.2% 11.2%

Figure 24: Net Revenue Breakdown (1H13)

Sources: Companies, CGIHK Research

CITICS (6030.HK) HTS (6837.HK) CGS (6881.HK)

Financials

Total asset (end-1H2013, RMB bn) 199.0 140.0 84.7

Net asset (end-1H2013, RMB bn) 84.3 60.0 24.8

Leverage (at end-1H2013) (x) 2.36 2.33 3.42

Adjusted leverage (excluding client assets) (at end-1H2013)(x) 1.91 1.70 1.75

Net capital/net asset (end-1H2013) (%) 51.54 66.59 77.9 (end-2012)

Value of equity securities and derivatives held/net capital (end-

1H2013) (%) 59.07 19.50 9.9 (end-2012)

Value of fixed income securities held/net capital (end-1H2013)

(%) 127.73 80.53 76.4 (end-2012)

Cost-to-income ratio (2012) (%) 55.35 56.10 66.16

Cost-to-income ratio (ex-impairment) (2012) (%) 55.09 46.96 65.68

Staff cost-to-income ratio (2012) (%) 33.43 23.26 33.56

No. of staff (end-1H2013) 10,157 6,964 8,031

ROAA (%)

2012 2.68 2.68 2.30

2013E 2.61 3.25 3.07

2014E 3.04 3.56 3.15

ROAE (%)

2012 4.90 5.82 8.49

2013E 5.68 7.37 10.72

2014E 7.54 8.99 11.24

20

The following are highlights of our stock calls. For details, please refer to the company reports accompanying this sector report.

HTS: BUY, TP: HK$14.40. We are initiating coverage of Haitong Securities (HTS) with

a BUY rating and a target price of HK$14.40, based on 1.65x price:book ratio (PBR)

derived by the Gordon Growth Model. As the second largest investment bank in China

in terms of total assets, HTS’ net profit surpassed CITICS in 1H13. Although we expect

CITICS to regain its No.1 position next year, HTS’s return on average equity (ROAE) is

higher than CITICS’ in 2013E and 2014E and its recurring EPS CAGR of 38% between

2012 and 2014E is also better than CITICS’ 28%. Since HTS is trading at 22% dis-

count to CITICS in terms of PER and 9% discount in terms of PBR on 2014E basis, we

believe HTS is a more attractive pick to ride on the expanding China securities industry

due to its higher ROAE than CITICS’.

CITICS: HOLD, TP: HK$15.50. We are initiating coverage of CITIC Securities

(CITICS) with a HOLD rating, and a price target of HK$15.50, equivalent to 1.43x

2014E PBR. The company lost its No.1 position in net profit to HTS in 1H13 due to

weak performance in investment banking and surging finance costs. However, we ex-

pect CITICS to regain its No.1 position in 2014E with 39% EPS growth thanks to a

likely resumption of IPO activities late this year, rapid growth of capital-based business

and the full-year contribution from CLSA. CITICS’ platform is very attractive, in our

view, on the back of its leadership in stock brokerage, investment banking and asset

management (China AMC). On the other hand, it is not a good time to buy the stock

now as its 2014E PBR of 1.53x should have fully reflected the improving ROAE outlook

of 5.7% in 2013E and 7.5% in 2014E. We will be buyers of the stock below HK$13.50,

which would offer at least 15% upside to our price target.

CGS: BUY, TP: HK$7.60. We reiterate our BUY call on China Galaxy Securities

(CGS) and maintain the price target of HK$7.60, based on 1.6x 2014E PBR derived by

Gordon Growth Model. CGS is trading at 26% discount to CITIC Securities (CITICS)

and 19% discount to Haitong Securities (HTS) in terms of PBR. We believe this large

valuation gap ignores the point that CGS’ 2013E and 2014E ROAE is higher than that

of CITICS and HTS. In terms of 2014E PER, we don’t see very strong reasons to justi-

fy why CGS should trade at a 50% discount to CITICS and 36% to HTS. We see at

least three catalysts to trigger a re-rating: (i) A-share IPO in 2014 or 2015 to narrow the

difference in size in terms of market cap; (ii) a more balanced revenue mix driven by

capital-based business and (iii) room to lower cost-to-income ratio relative to peers.

RMB bn 2010 2011 2012 2013E 2014E

A-share market average daily turnover 225 173 129 185 200

MFSL balance 13 38 90 320 487

Funds raised through equity market 962 768 494 486 656

Figure 25: Key Industry Assumptions


21

Figure 26: Peer Valuation

Source: CGIHK Research estimates

Figure 27: Peer Comparison


Figure 28: Sector Valuation

Sources: Bloomberg, CGIHK Research estimates





Simple average 28.1 21.2 15.6 1.70 1.45 1.35 1.7 1.5 1.8



2012 -2014E





Simple average 31.5 33.1 32.1 6.4 7.9 9.3 2.6 3.0 3.2



Company Ticker RatingPrice (Local

currency)

Market cap

(US$m)2012 2013E 2014E 2012 2013E 2014E 2012 2013E 2014E 2012 2013E 2014E 2012 2013E 2014E

CITIC 6030 HK Equity HOLD 16.32 22,099 34.5 28.8 20.5 1.66 1.61 1.53 2.3 1.5 1.7 4.9 5.7 7.5 2.7 2.6 3.0

Haitong 6837 HK Equity BUY 12.20 18,772 31.5 21.0 16.0 1.62 1.51 1.39 1.2 1.8 2.4 5.8 7.4 9.0 2.7 3.2 3.6

China Galaxy 6881 HK Equity BUY 5.29 5,112 18.2 13.8 10.3 1.83 1.24 1.13 n.a. 1.1 1.5 8.5 10.7 11.2 2.3 3.1 3.2

Simple average 28.1 21.2 15.6 1.70 1.45 1.35 1.7 1.5 1.8 6.4 7.9 9.3 2.6 3.0 3.2

Weight average 31.5 24.0 17.5 1.66 1.53 1.43 n.a. 1.6 2.0 5.7 6.9 8.5 2.6 2.9 3.3

A-share listed securities companies

CITIC-A 600030 CH Equity NR 12.29 22,099 33.0 25.7 19.7 1.60 1.51 1.44 2.4 1.8 2.1 4.9 5.9 7.2 2.4 2.7 2.8

Haitong-A 600837 CH Equity NR 12.51 18,772 33.0 27.2 22.9 2.00 1.94 1.82 1.0 1.2 1.6 6.2 7.1 8.3 2.9 3.3 3.5

Guangfa 000776 CH Equity NR 11.85 11,454 33.9 24.3 20.4 2.10 2.05 1.94 1.3 1.5 1.9 6.4 7.4 9.6 2.3 2.8 3.4

China Merchants 600999 CH Equity NR 11.3 8,601 30.2 25.4 20.3 2.02 1.95 1.83 1.3 1.2 1.6 6.8 7.5 9.0 2.1 2.8 2.9

Huatai 601688 CH Equity NR 9.18 8,395 28.0 22.2 17.3 1.49 1.43 1.35 1.6 1.8 1.9 5.4 6.9 8.6 2.1 2.8 2.9

Hong Yuan 000562 CH Equity NR 8.3 5,384 31.1 19.3 18.0 2.28 2.06 1.92 3.6 5.5 1.5 7.3 9.0 9.8 3.5 4.3 4.3

Everbright 601788 CH Equity NR 9.52 5,313 32.8 24.2 18.4 1.47 1.38 1.32 1.0 1.4 1.8 4.5 5.3 7.0 1.8 2.1 2.2

Industrial 601377 CH Equity NR 9.83 4,173 41.1 33.2 27.5 2.01 2.06 1.94 1.2 1.1 2.1 5.1 6.3 7.0 2.1 2.8 2.8

Changjiang 000783 CH Equity NR 9.12 3,531 28.5 23.6 20.2 1.78 1.72 1.65 2.2 2.5 3.0 6.4 7.5 8.1 2.7 n.a. n.a.

Southw est 600369 CH Equity NR 9.02 3,421 55.0 39.0 31.8 2.00 1.95 1.88 1.1 0.7 0.9 3.5 5.2 6.4 1.9 2.6 3.2

Guoyuan 000728 CH Equity NR 9.41 3,018 45.3 32.9 27.6 1.22 1.20 1.17 1.1 1.2 1.5 2.7 3.7 4.4 1.7 2.1 2.7

Northeast 000686 CH Equity NR 15.45 2,469 43.8 35.9 35.8 2.08 2.00 1.88 1.3 1.2 0.8 6.4 6.7 n.a. 2.1 n.a. n.a.

Sinolink 600109 CH Equity NR 12.84 2,713 60.9 46.7 36.3 2.53 2.53 2.41 n.a. 0.6 0.6 5.0 5.0 5.5 2.1 2.0 2.3

Pacif ic 601099 CH Equity NR 5.2 1,404 426.2 89.7 76.5 3.99 n.a. n.a. 0.3 n.a. n.a. 0.9 n.a. n.a. 0.4 n.a. n.a.

Simple average 65.9 33.5 28.0 2.04 1.83 1.73 1.5 1.7 1.6 5.1 6.4 7.6 2.1 2.7 3.0

Weight average 40.1 27.7 22.7 1.88 1.78 1.69 1.6 1.7 1.8 5.5 6.6 8.0 2.4 2.9 3.1

International investment banks

Goldman Sachs GS US Equity NR 156.55 73,128 9.3 10.3 10.1 1.04 1.01 0.94 1.3 1.3 1.4 12.0 10.5 9.9 0.9 0.8 0.8

Morgan Stanley MS US Equity NR 26.99 52,861 14.5 14.2 10.4 0.86 0.84 0.80 0.7 0.7 1.1 1.9 6.2 7.9 0.2 0.5 0.6

PER (x) PBR (x) Dividend yield (%) ROE (%) ROA (%)

22

Figure 29: Relative Performance

Source: Capital IQ

23

CITIC Securities [6030.HK]

HOLD

Close: HK$16.32 (October 4, 2013)

Target Price: HK$15.50 (- 5%)

Price Performance

Market Cap US$22,228m

Shares Outstanding 11,015m

Auditor Ernst & Young

Free Float 74%

52W range HK$12.24-21.40

3M average daily T/O US$19.1m

Major Shareholding CITIC Limited

(20.9%)

Sources: Company, Bloomberg


(852) 3698-6317

[email protected]


(852) 3698 6889

[email protected]


China Securities Sector We are initiating coverage of CITIC Securities (CITICS) with a HOLD rating, and a

price target of HK$15.50, equivalent to 1.43x 2014E PBR. The company lost its

No.1 position in net profit to Haitong Securities (HTS) in 1H13 due to weak perfor-

mance in investment banking and surging finance costs. However, we expect CIT-

ICS to regain its No.1 position in 2014E with 39% EPS growth thanks to a likely re-

sumption of IPO activities late this year, rapid growth of capital-based business and

the full-year contribution from CLSA. CITICS’ platform is very attractive, in our view,

on the back of its leadership in stock brokerage, investment banking and asset man-

agement (China AMC). On the other hand, it is not a good time to buy the stock now

as its 2014E PBR of 1.53x should have fully reflected the improving ROAE outlook

of 5.7% in 2013E and 7.5% in 2014E. We will be buyers of the stock below

HK$13.50, which would offer at least 15% upside to our price target.

Investment Highlights

Growth driver #1: Investment banking. CITICS has one of the strongest in-

vestment banking teams in China, but fee income from this business fell 40% year-on-year (YoY) in 1H2013 due to the suspension of initial public offerings (IPO). But we believe IPO activities are likely to resume after the Communist Party Plenary Meeting in November. As such, we expect fee income from this segment to grow 57% year-on-year (YoY) in 2014E to RMB2.3bn.

Growth driver #2: Capital-based business. The company has issued a total

of RMB20bn corporate bonds since June. These new funds will support its capi-tal-based business and provide a full-year contribution in 2014E. We forecast interest income to grow 62% YoY to RMB5.9bn next year. After deducting inter-est expenses, net interest income is expected to double to RMB1.5bn in 2014E.

Growth driver #3: CLSA. CITICS completed the acquisition of CLSA in August

and its contribution will be reflected on full-year basis in 2014E. We project CLSA to contribute about 6% of the total profit next year.

HOLD with a price target of HK$15.50. Our price target is based on 1.43x

2014E PBR derived by Gordon Growth Model. Although we like CITICS’ leading position, its 10% and 35% premium over HTS and China Galaxy Securities (CGS) in terms of 2014E PBR is already discounting this factor. Despite a re-covering ROAE trend, at the current 2014E PBR of 1.53x it is difficult to justify a BUY based on 5.7% ROAE in 2013E and 7.5% in 2014E.

INITIATE COVERAGE: THE RETURN OF THE KING

October 7, 2013

0

200

400

600

800

0

5

10

15

20

25

Oct12 Dec12 Feb13 Apr13 Jun13 Aug13

(HK$ million)(HK$)

Turnover (RHS) Price (LHS)

Y/E Dec 31 2010 2011 2012 2013E 2014E

Turnover (RMB m) 24,322 13,081 12,910 17,208 23,655

Recurring net profit (RMB m) 6,988 2,766 4,237 4,993 6,916

Adjusted Net margin (%) 36 25 39 38 39

Recurring EPS (RMB) 0.70 0.25 0.38 0.45 0.63

% Change (22) (64) 53 18 39

PER (x) 20.2 54.0 34.5 28.8 20.5

PBR (x) 2.04 1.66 1.66 1.61 1.53

ROAA (%) 3.9 1.8 2.7 2.6 3.0

ROAE (%) 10.6 3.5 4.9 5.7 7.5

24

Key financials

CITIC Securities (6030.HK)

Income Statement

(RMB'000, except for per share amount)

Year ended 31 Dec 2010 2011 2012 2013E 2014E

Investment banking 3,286,597 1,982,638 2,754,315 1,495,782 2,340,653

Brokerage 9,447,023 4,517,536 3,602,717 4,809,260 5,177,357

Trading - - 237,915 700,000 1,000,000

Asset management 3,740,934 3,097,393 319,542 1,387,418 3,876,600

Others 123,784 115,665 175,206 200,000 230,000

Commission and fee income 16,598,338 9,713,232 7,089,695 8,592,459 12,624,610

Interest income 1,988,081 2,056,433 2,172,183 3,626,849 5,886,131

Net investment gains 5,735,603 1,311,290 3,648,018 4,988,702 5,144,337

Total revenue 24,322,022 13,080,955 12,909,896 17,208,011 23,655,078

Other income and gains 193,849 208,612 161,345 130,000 150,000

Total revenue and other income 24,515,871 13,289,567 13,071,241 17,338,011 23,805,078

Staff cost (6,980,960) (4,996,961) (3,785,608) (4,171,695) (5,106,720)

Commission and fee expenses (1,739,911) (1,067,483) (800,805) (859,228) (945,410)

Interest expenses (684,840) (654,986) (947,693) (2,874,531) (4,384,408)

Others (4,579,507) (5,036,203) (2,482,034) (3,323,410) (4,596,574)

Operating expenses (13,985,218) (11,755,633) (8,016,140) (11,228,865) (15,033,112)

Operating profit 10,530,653 1,533,934 5,055,101 6,109,146 8,771,966

Share of profits of associates 36,889 376,127 439,344 263,459 120,000

Share of profits of JCEs (12,601) 39,636 (7,176) 100,000 70,000

Exceptional items 5,765,000 13,081,306 - 2,140,000 -

Income before tax 16,319,941 15,031,003 5,487,269 8,612,605 8,961,966

Income tax expense (4,183,890) (2,426,514) (1,180,466) (2,488,699) (2,150,872)

Minority interests (824,708) (28,006) (69,385) (104,688) (304,425)

Profit from CLSA - - - 113,960 409,590

Net income 11,311,343 12,576,483 4,237,418 6,133,178 6,916,259

Recurring net income 6,987,593 2,765,504 4,237,418 4,993,178 6,916,259

EPS (RMB) 1.137 1.142 0.385 0.557 0.628


DPS (RMB) 0.500 0.430 0.300 0.195 0.220

A-share average daily turnover 225,468,405 172,807,262 129,492,761 185,000,000 200,000,000

Brokerage market share CITICS 8.8% 5.5% 5.7% 6.3% 6.6%

Net commission rate of CITICS 0.082% 0.076% 0.079% 0.071% 0.067%

Margin f inancing balance 1,975,414 2,603,885 8,837,561 35,185,695 51,615,206

Staff cost-to-income 31.6% 43.2% 33.4% 30.7% 27.6%

Cost-to-income 52.3% 86.7% 55.4% 55.1% 52.5%

Cost-to-income (ex-impairment) 52.3% 73.7% 55.1% 54.0% 51.7%

Growth Rates:

Commission and fee income -8.6% -41.5% -27.0% 21.2% 46.9%

Interest income -1.6% 3.4% 5.6% 67.0% 62.3%

Net investment gains 67.3% -77.1% 178.2% 36.8% 3.1%

Total revenue and other income 2.7% -45.8% -1.6% 32.6% 37.3%

Recurring EPS -22.2% -64.3% 53.2% 17.8% 38.5%

Margins and Ratios:

Adjusted operating margin 47.2% 11.7% 43.8% 44.4% 47.0%

Adjusted net margin 35.7% 24.6% 38.6% 37.8% 39.4%

Effective tax rate 26% 16% 22% 38% 24%

Sources: Company data, CGIHK Research estimates

25

Key financials

CITIC Securities (6030.HK)

Balance Sheet Finance Ratios

(RMB'000 , except for per share amount)

As at 31 Dec 2010 2011 2012 2013E 2014E 2010 2011 2012 2013E 2014E

Financial assets 53,911,417 49,536,559 65,644,070 78,830,001 87,934,626 PER(x) 20.2 54.0 34.5 28.8 20.5

Advances to customers 1,975,415 2,967,278 9,423,188 35,785,695 52,215,206 EPS grow th (%) 22- 64- 53 18 39

Others 3,347,188 2,380,001 5,415,155 13,303,134 11,076,853 Yield (%) 3.5 3.2 2.3 1.5 1.7

Cash held on behalf of customers 61,911,465 35,760,238 33,851,517 39,504,632 44,654,702 Payout ratio (%) 44.0 37.7 78.0 35.0 35.0

Bank balances and cash 18,444,157 33,444,451 25,835,767 19,000,000 15,000,000 PBR(x) 2.04 1.66 1.66 1.61 1.53

Total current assets 139,589,642 124,088,527 140,169,697 186,423,462 210,881,387 Total asset/equity (x) 2.17 1.71 1.95 2.40 2.56

Non-client asset/net asset (x) 1.29 1.29 1.54 1.95 2.07

PPE, net 2,490,546 3,338,447 3,319,826 1,472,637 1,431,702 ROAA (%) 3.88 1.83 2.68 2.61 3.04

Financial assets 5,982,636 7,993,916 12,258,464 12,333,669 13,333,669 ROAE (%) 10.6 3.5 4.9 5.7 7.5

Others 5,114,846 12,859,490 12,759,568 14,271,758 14,991,758

Total non-current assets 13,588,028 24,191,853 28,337,858 28,078,064 29,757,129 Revenue breakdown (%)

Investment banking 13.5 15.2 21.3 8.7 9.9

Total assets 153,177,670 148,280,380 168,507,555 214,501,527 240,638,516 Brokerage 38.8 34.5 27.9 27.9 21.9

Trading - - 1.8 4.1 4.2

Accounts payable 62,081,222 36,477,143 34,807,288 39,604,632 44,754,702 Asset management 15.4 23.7 2.5 8.1 16.4

Financial assets sold under repo 6,901,600 14,232,693 22,043,614 28,000,000 36,000,000 Others 0.5 0.9 1.4 1.2 1.0

Due to banks and other f inancial institutions - 100,000 2,900,000 8,000,000 13,000,000 Commission and fee income 68.2 74.3 54.9 49.9 53.4

Others 11,039,284 8,865,172 19,983,948 27,156,141 30,068,988 Interest income 8.2 15.7 16.8 21.1 24.9

Total current liabilities 80,022,106 59,675,008 79,734,850 102,760,773 123,823,691 Net investment gains 23.6 10.0 28.3 29.0 21.7

Bonds payable 1,500,000 1,500,000 1,500,000 21,373,663 21,373,663

Others 807,849 115,169 588,408 750,000 750,000

Total non-current liabilities 2,307,849 1,615,169 2,088,408 22,123,663 22,123,663

Total liabilities 82,329,955 61,290,177 81,823,258 124,884,436 145,947,354

Shareholders' equity 70,434,899 86,587,285 86,465,004 89,293,110 94,062,757

Minority interests 412,816 402,918 219,293 323,981 628,406

Book value per share (HK$) 8.13 9.47 9.65 10.13 10.84

Dupont analysis (as % of average total assets)

Investment banking 0.9% 1.3% 1.7% 0.8% 1.0%

Brokerage 2.6% 3.0% 2.3% 2.5% 2.3%

Trading 0.0% 0.0% 0.2% 0.4% 0.4%

Asset management 1.0% 2.1% 0.2% 0.7% 1.7%

Others 0.0% 0.1% 0.1% 0.1% 0.1%

Commission and fee income 4.6% 6.4% 4.5% 2.4% 5.5%

Interest income 0.6% 1.4% 1.4% 1.0% 2.6%

Net investment gains 1.6% 0.9% 2.3% 1.4% 2.3%

Other income and gains 0.1% 0.1% 0.1% 0.0% 0.1%

Total revenue and other income 6.8% 8.8% 8.3% 4.8% 10.5%

Operating expenses -3.9% -7.8% -5.1% -3.1% -6.6%

Operating profit 2.9% 1.0% 3.2% 1.7% 3.9%

Income tax expense -1.2% -1.6% -0.7% -0.7% -0.9%

Recurring net profit (ROAA) 3.9% 1.8% 2.7% 2.6% 3.0%

Leverage (x) 2.7 1.9 1.8 2.2 2.5


ROAE 10.6% 3.5% 4.9% 5.7% 7.5%


26

Valuation and Recommendation

Initiating coverage with a HOLD rating. We are initiating coverage of CITIC Securi-

ties (CITICS) (6030.HK) with a HOLD rating and a HK$15.50 price target, based on

1.43x 2014E PBR (equivalent to 19.4x 2014E PER). The market leader’s 1H13 net

profit dropped 5.7% YoY due to a 40% decline in fee income from investment banking.

Yet we believe CITICS is approaching an inflection point and we expect its EPS growth

to recover to 39% in 2014E, on the back of (i) 57% growth in fee income from invest-

ment banking as IPO activities in the A-share market are likely to resume later this

year; (ii) 62% growth in interest income driven by rapid growth in capital-based busi-

ness and (iii) full-year profit contribution from CLSA (about 6% of our 2014E profit fore-

cast).

As the market leader in three major business lines, i.e. brokerage, investment banking

and asset management (namely China AMC), we believe CITICS is in the best position

to benefit from market deregulation and the expanding China capital market. However,

we only have a HOLD rating on the stock as our price target suggests that most of the

positives are reflected in the share price.

Target price at HK$15.50 based on 1.43x 2014E PBR. We adopt the Gordon Growth

Model ((ROE-g)/(COE-g)) as our principal valuation method with a target PBR of 1.43x.

Due to the business nature of securities companies, PER may be easily affected by

short-term earnings volatility. Our 1.43x PBR is derived by using the following parame-

ters:

(a) risk-free rate of 3.33% (5-year average of US 10-year treasuries);

(b) 8% expected market return;

(c) beta at 1.3;

(d) cost of equity at 9.4% (the end result of the parameters above);

(e) 8% growth rate (we believe it is reasonable as the stock market in the long run should grow in tandem with GNP growth while it is still too early for the Chinese economy to achieve a nominal growth rate below 8%); and

(f) medium-term ROE of 10%.

In terms of current valuation, CITICS is trading at 20.5x 2014E PER and 1.53x 2014E PBR. The company’s valuation represents a 10% premium over HTS (6837.HK) and 35% premium over CGS in terms of PBR. Using PER as the benchmark, CITICS is also trading at 28% and 99% premium over HTS and CGS, respectively. Given that CITICS’ ROAE is lower than its peers in 2013E and 2014E, we believe the company is fully valued even taking its market leadership into account. From an absolute valuation perspective, the current 2014E PBR of 1.53x also looks unattractive against its 2014E ROAE of 7.5%.

27











Simple average 28.1 21.2 15.6 1.70 1.45 1.35 1.7 1.5 1.8



2012 -2014E





Simple average 31.5 33.1 32.1 6.4 7.9 9.3 2.6 3.0 3.2




currency)

Market cap

(US$m)2012 2013E 2014E 2012 2013E 2014E 2012 2013E 2014E 2012 2013E 2014E 2012 2013E 2014E




Simple average 28.1 21.2 15.6 1.70 1.45 1.35 1.7 1.5 1.8 6.4 7.9 9.3 2.6 3.0 3.2

















Simple average 65.9 33.5 28.0 2.04 1.83 1.73 1.5 1.7 1.6 5.1 6.4 7.6 2.1 2.7 3.0

Weight average 40.1 27.7 22.7 1.88 1.78 1.69 1.6 1.7 1.8 5.5 6.6 8.0 2.4 2.9 3.1





28

Figure 4: Rolling Forward PBR Range

Sources: Bloomberg, CGIHK Research

Figure 5: Rolling Forward PER Range


1.0

1.2

1.4

1.6

1.8

2.0

2.2

Oct

-11

Dec

-11

Feb

-12

Ap

r-12

Jun

-12

Au

g-12

Oct

-12

Dec

-12

Feb

-13

Ap

r-13

Jun

-13

Au

g-13

Oct

-13

Rolling forward PBR (x) Average

+1 Standard deviation -1 Standard deviation

10.0

15.0

20.0

25.0

30.0

35.0

40.0

45.0

50.0

Oct

-11

Dec

-11

Feb

-12

Apr

-12

Jun

-12

Aug

-12

Oct

-12

Dec

-12

Feb

-13

Apr

-13

Jun

-13

Aug

-13

Oct

-13

Rolling forward PER (x) Average


29

Financial Analysis

Recurring EPS growth at 28% CAGR between 2012 and 2014E. We project CITICS’

recurring EPS to grow at 18% and 39% in 2013E and 2014E, respectively. The rela-

tively slow growth in 2013E is largely due to (i) 46% decline in fee income related to

investment banking business as a result of China’s IPO suspension and (ii) 203% jump

in finance costs due to a significant increase in bond issuance to support the business

(most of its IPO proceeds were kept in Hong Kong for the acquisition of CLSA). We

expect to see higher EPS growth in 2014E, mainly driven by (i) 57% growth in fee in-

come from investment banking business as we expect IPO activities to resume next

year; (ii) 62% growth in interest income thanks to rapid growth in margin financing and

securities lending and other capital-based business and (iii) full-year profit contribution

from CLSA, representing about 6% of our 2014E profit forecast.

Figure 6: Key Assumptions and Projections

*Adjusted operating margin = (Total revenue – operating expenses)/(total revenue – commission and fee expenses – interest

expenses)

**Adjusted net margin = Net profit including minority interests/(total revenue – commission and fee expenses – interest expenses)


Y/E Dec 31 2010 2011 2012 2013E 2014E

RMB'000

Investment banking 3,286,597 1,982,638 2,754,315 1,495,782 2,340,653

Brokerage 9,447,023 4,517,536 3,602,717 4,809,260 5,177,357

Trading - - 237,915 700,000 1,000,000

Asset management 3,740,934 3,097,393 319,542 1,387,418 3,876,600

Others 123,784 115,665 175,206 200,000 230,000


Interest income 1,988,081 2,056,433 2,172,183 3,626,849 5,886,131


Total revenue 24,322,022 13,080,955 12,909,896 17,208,011 23,655,078

YoY change 3% -46% -1% 33% 37%

Staff cost (6,980,960) (4,996,961) (3,785,608) (4,171,695) (5,106,720)


Other operating expenses (6,319,418) (6,103,686) (3,282,839) (4,182,639) (5,541,984)

Total operating expenses (13,985,218) (11,755,633) (8,016,140) (11,228,865) (15,033,112)


Adjusted operating margin* 47.2% 11.7% 43.8% 44.4% 47.0%

Recurring net profit 6,987,593 2,765,504 4,237,418 4,993,178 6,916,259

Adjusted net margin* 35.7% 24.6% 38.6% 37.8% 39.4%


YoY change -22% -64% 53% 18% 39%


Brokerage market share CITICS 8.8% 5.5% 5.7% 6.3% 6.6%

Net commission rate of CITICS 0.082% 0.076% 0.079% 0.071% 0.067%

Margin financing balance 1,975,414 2,603,885 8,837,561 35,185,695 51,615,206

Equities underwritten 137,451,000 45,021,000 36,822,000 37,396,459 52,493,532

Bonds underwritten 116,600,000 153,400,000 215,355,000 186,956,686 218,813,538


Cost-to-income 52.3% 86.7% 55.4% 55.1% 52.5%

30

Operating margin to increase. Adjusted operating margin of CITICS is expected to

increase to 44.4% in 2013E and 47.0% in 2014E, respectively, from 43.8% in 2012. In

particular, the key revenue growth drivers in 2014E are investment banking fee income

and interest income from capital-based business. These business segments are less

labour-intensive compared with the traditional stock brokerage business. High revenue

growth in these two areas will enable the company to enjoy operating leverage.

Consolidation of China AMC leads to large revenue jump. Commission and fee

income from asset management tumbled 90% YoY to RMB319m in 2012 due to de-

consolidation of China AMC, as CITICS sold a 51% stake of the former to third parties

to meet regulatory requirements. Yet the company completed the acquisition of a 10%

stake in China AMC from a third party in September for a consideration of RMB1.6bn

as a result of changes in regulations. CITICS’ share in China AMC increased to 59%,

which allows consolidation of results to the income statement. Therefore China AMC

will make a full-year revenue contribution in 2014 leading to 179% revenue growth in

the asset management business.

Figure 7: Revenue Breakdown

Sources: Companies, CGIHK Research estimates

% 2010 2011 2012 2013E 2014E


Brokerage 38.8 34.5 27.9 28.0 22.0

Trading - - 1.8 4.1 4.2

Asset management 15.4 23.7 2.5 8.1 16.5

Others 0.5 0.9 1.4 1.2 1.0

Commission and fee income 68.2 74.3 54.9 50.1 53.6

Interest income 8.2 15.7 16.8 20.8 24.6

Net investment gains 23.6 10.0 28.3 29.1 21.8

Surging finance cost to support new business. Although CITICS raised about

HK$13bn in its IPO in Hong Kong two years ago, we understand most of the proceeds

have not been remitted back to the mainland, which was used for the acquisition of

CLSA. As such, CITICS issued short-term commercial paper and corporate bonds fre-

quently to support its capital-based business in China. We project the company’s inter-

est expense to rise 203% YoY in 2013E to RMB2.87bn while the company’s adjusted

leverage (non-client asset/net asset) is expected to increase from 1.54x in 2012 to

1.95x in 2013E.

31

ROAE to recover. CITICS’ ROAE dropped below 5% in 2011 and 2012 as a result of

enhanced equity base following the IPO in Hong Kong in 2011 coupling with lacklustre

net profit in these two years because of poor market conditions. We foresee ROAE to

improve to 5.7% in 2013E and 7.5% in 2014E thanks to (i) increasing leverage

(discussed above); (ii) recovery of the investment banking business in 2014E as we

assume IPO activities will resume next year and (iii) CLSA to have full-year profit con-

tribution in 2014E.

Figure 9: CITICS’ Leverage, ROAA and ROAE


Figure 8: Finance Cost and Gearing of CITICS


1.00

1.20

1.40

1.60

1.80

2.00

2.20

-

500

1,000

1,500

2,000

2,500

3,000

3,500

4,000

4,500

5,000

2010 2011 2012 2013E 2014E

Finance cost (RMB m) Non-client asset/net asset (RHS)

-

2.0

4.0

6.0

8.0

10.0

12.0

-

0.5

1.0

1.5

2.0

2.5

3.0

2010 2011 2012 2013E 2014E

Total asset/net asset (LHS) ROAA (%) ROAE (%)

32

Reducing equity exposure in proprietary trading. In the past, CITICS’ proprietary

trading portfolio had higher exposure to equities compared with HTS and CGS. Howev-

er, we notice that the company has been carefully controlling the size of the equity

portfolio to reduce volatility. Its value of equity securities and derivatives held/net capi-

tal decreased from 66% at end-2012 to 59% at end-1H13. Given that the company’s

net capital/net asset was only 51.54% at end-June (close to the regulator’s warning

level of 48%), we believe it will continue to control its equity exposure to reduce the

pressure on net capital. Meanwhile, the proposed disposal of office buildings in Beijing

and Shenzhen for a total consideration of >RMB5bn should largely reduce the need to

issue new equity in the near term.

Figure 10: CITICS’ Proprietary Trading Exposure


40%

45%

50%

55%

60%

65%

70%

75%

2010 2011 2012 1H2013

Value of equity securities and derivatives held/Net capital

Net capital/net asset

Figure 11: Sensitivity Analysis

Unit: % 2013E 2014E

Commission rate up 0.005% 5.1 4.2

Commission rate down 0.005% -5.1 -4.2

Average daily turnover up RMB10bn 3.3 2.3

Average daily turnover down RMB10bn -3.3 -2.3

Brokerage market share up 0.1% 0.97 0.71

Brokerage market share down 0.1% -0.97 -0.71


33

Company Background

CITIC Securities (CITICS) is the leading full-service investment bank in China. It was

established on October 25, 1995. Between 2010 and August 2013, the company was

the leader in equity underwriting market with a market share of 9.8%, according to

WIND Info. In the bond underwriting market, it also ranked top among investment

banks with a market share of 5.1% in 2012. Its consolidated market share (including

CITIC Securities, CITIC Securities (Zhejiang) and CITIC Wantong Securities) is also

the largest (5.76%) in the equity brokerage business last year in terms of trading value.

CITICS is the major shareholder (59% stake) of China AMC, the biggest fund manage-

ment company in China. In addition, it completed the acquisition of 100% of CLSA this

year to develop its international business.

CITICS was listed on the Shanghai Stock Exchange and the Hong Kong Stock Ex-

change on January 6, 2003 and October 6, 2011, respectively. CITIC Group is the larg-

est shareholder of the company that owns a 20.9% stake.

Figure 12: Shareholding Structure


CITIC Limited21%

China Life5%

Others74%

34

Investment Risks

The overall economy is susceptible to domestic and global risk, resulting in a sub-

stantial downturn in market turnover. This would undermine CITICS’ brokerage, sales & trading activities.

Domestic investor sentiment remains uncertain, and the volatility in China’s equity

market may continue for a prolonged period, although that is not our base case.

Increased online trading activity may erode commissions and attract broking cli-

ents away from traditional securities companies. In addition, internet giants such as Tencent and Alibaba are trying to develop financial businesses, which may become formidable competitors in the future.

China may suffer rapid acceleration in inflation, driven by excess credit and rising

global commodity prices. Response to this could be monetary tightening and rising interest rates, undermining corporate earnings and bond market valuations. Unex-pected volatility in interbank rates for a prolonged period may also affect bond valuations and the funding cost of the company.

The suspension in initial public offerings (IPOs) may continue longer than ex-

pected, reducing scope for investment banking operations, a key earnings driver of CITICS.

CITICS is actively expanding its international business but the outlook is uncertain

due to very limited track record and the difficulty to integrate the culture between a Chinese investment bank and overseas investment bank.

Commercial banks respond to securities companies’ incursion into interbank mar-

ket by offering more proactive wealth management products; by defending their positions in FICC; and possibly by entering the direct market access/flow market with low-margin products.

China’s domestic market is open to foreign brokers. While this seems improbable

today, the pressure on China to open its financial markets is already intense, and will be maintained. In China, foreign brokers account for less than 5% of institu-tional brokerage revenues, compared with >60% in India.

Quantitative trading has a relatively short history in China. Any trading errors may

cause significant losses to the company.

Regulatory changes could affect the business environment for securities compa-

nies.

Generally increased competition in investment banking and investment manage-

ment businesses could erode fees in these sectors.

35

Haitong Securities [6837.HK]

We are initiating coverage of Haitong Securities (HTS) with a BUY rating and a target

price of HK$14.40, based on 1.65x price:book ratio (PBR) derived by the Gordon Growth

Model. As the second largest investment bank in China in terms of total assets, HTS’ net

profit surpassed CITIC Securities (CITICS) in 1H13. Although we expect CITICS to re-

gain its No.1 position next year, HTS’s return on average equity (ROAE) is higher than

CITICS’ in 2013E and 2014E and its recurring EPS CAGR of 38% between 2012 and

2014E is also better than CITICS’ 28%. Since HTS is trading at 22% discount to CITICS

in terms of PER and 9% discount in terms of PBR on 2014E basis, we believe HTS is a

more attractive pick to ride on the expanding China securities industry due to its higher

ROAE than CITICS’.


Challenging the No.1 position. As the suspension of initial public offerings

(IPO) affected CITICS’ investment banking business, HTS grasped the oppor-

tunity and became the most profitable investment bank in 1H13. Despite CITICS

is likely to regain the leadership position in 2014 once IPO activities are re-

sumed, we believe the performance in 1H13 shows that HTS will be a formida-

ble challenger in the coming years. In fact, its recurring EPS CAGR of 38% be-

tween 2012 and 2014E is higher than CITICS’ 28%.

Proprietary trading performance less volatile than CITICS. In the past few

years HTS’ net investment gains have maintained a stable growth path while

CITICS was more volatile. One of the key reasons is its relatively limited expo-

sure to equities. The company’s value of equity securities and derivatives held/

net capital was only 19.5% in 1H13, much lower than CITICS’ 59.1%. HTS’ fo-

cus on fixed income products (mainly for capital-based business and quantita-

tive investments) helps lower the volatility of performance.

More flexibility to manage asset allocation. HTS’ net capital/net asset was

66.6% in 1H13 while CITICS’ was only 51.5%. A relatively high net capital/net

asset ratio will allow HTS to have more flexibility to develop new business.

BUY with a price target of HK$14.40. Our price target is based on a 1.65x

2014E PBR, derived by the Gordon Growth Model. As HTS is trading at 1.39x

2014E PBR while CITICS is trading at 1.53x, we believe HTS is more attractive

based on its higher projected ROAE (9% in 2014E vs. CITICS’ 7.5%).

BUY


Target Price: HK$14.40 (+18%)

Price Performance



Auditor Deloitte

Free Float 84%

52W range HK$8.61-14.08


Major Shareholder Bright Food (Group)

(4.43%)



(852) 3698-6317

[email protected]


(852) 3698 6889

[email protected]



INITIATE COVERAGE: A FORMIDABLE CHALLENGER

October 7, 2013

0

500

1000

1500

2000

0

5

10

15

Oct12 Dec12 Feb13 Apr13 Jun13 Aug13

(HK$ million)(HK$)


Y/E Dec 31 2010 2011 2012 2013E 2014E

Turnover (RMB m) 11,109 10,627 10,493 13,314 15,856


Adjust net margin (%) 40 36 36 42 47


% Change (17) (14) (4) 47 18

PER (x) 23.7 26.9 31.5 21.0 16.0

PBR (x) 1.97 1.85 1.62 1.51 1.39

ROAA (%) 3.1 2.9 2.7 3.2 3.6 ROAE (%) 8.4 6.9 5.8 7.4 9.0

36

Key financials

Haitong Securities (6837.HK)

Income Statement


Year ended 31 Dec 2010 2011 2012 2013E 2014E

Equities 5,938,693 3,933,956 2,894,924 3,634,297 3,910,555

Investment banking 1,039,162 960,006 798,645 734,528 969,755

Asset management 714,793 985,783 861,837 889,125 1,193,000

Futures/derivatives 392,719 393,150 466,497 456,375 494,513

Others 298,693 293,886 191,277 540,169 612,853


Interest income 1,647,007 2,553,171 2,876,735 3,539,383 4,791,090


Total revenue 11,108,857 10,626,878 10,492,604 13,314,271 15,855,866



Staff costs (2,619,668) (2,319,953) (2,142,298) (2,326,170) (2,439,000)

Commission and fee expenses (1,175,823) (1,044,243) (828,334) (857,252) (957,845)


Others (2,316,385) (2,809,130) (3,024,520) (3,126,812) (3,522,407)



Share of profits of associates 78,120 72,912 65,866 86,885 92,130

Non-recurrent items - - - - -


Income tax expense (1,121,532) (1,018,167) (874,980) (1,358,371) (1,601,628)


Profit from UT Capital - - - - 515,000

Net income 3,686,264 3,103,034 3,019,776 4,444,891 5,755,884


EPS (RMB) 0.448 0.377 0.315 0.464 0.601


DPS (RMB) 0.150 0.150 0.120 0.176 0.228


Brokerage market share of Haitong (%) 4.0 4.1 4.5 4.7 4.9

Net commission rate of Haitong (%) 0.102 0.081 0.073 0.065 0.062

Margin f inancing balance 2,091,000 3,916,142 7,049,196 16,953,108 24,833,731

Staff cost-to-income (%) 26.6 24.8 23.3 20.4 18.8

Cost-to-income (%) 50.1 54.8 56.1 47.8 45.9

Cost-to-income (ex-impairment) 50.2 49.4 47.0 44.3 42.8

Growth Rates:

Commission and fee income -4% -22% -21% 20% 15%

Interest income 17% 55% 13% 23% 35%

Net investment gains 21% 40% 59% 47% 10%

Total revenue and other income 0% -4% -1% 26% 19%

Operating profit -17% -14% -4% 47% 18%

Recurring net income -19% -16% -3% 47% 29%

Recurring EPS -19% -16% -16% 47% 29%

Margins and Ratios:





37

Key financials

Haitong Securities (6837.HK)



As at 31 Dec 2010 2011 2012 2013E 2014E 2010 2011 2012 2013E 2014E


Advances to customers 5,814,456 6,462,677 11,338,687 22,953,108 32,033,731 EPS grow th (%) 19- 16- 16- 47 29

Others 29,286,667 14,569,232 19,049,177 18,829,447 21,455,599 Yield (%) 1.4 1.5 1.2 1.8 2.4

Cash held on behalf of customers 41,552,933 33,371,801 31,460,515 32,696,678 36,851,920 Payout ratio (%) 33 40 38 38 38




PPE, net 1,201,183 1,177,137 1,134,459 1,124,824 1,087,419 ROAA (%) 3.12 2.89 2.68 3.25 3.56

Financial assets 1,877,469 1,933,565 4,005,619 5,800,000 5,830,000 ROAE (%) 8.4 6.9 5.8 7.4 9.0

Others 2,037,924 3,052,259 4,811,819 6,641,073 12,058,744


Equities 53.5 37.0 27.6 27.3 24.7

Total assets 115,413,098 98,976,911 126,725,439 146,836,158 176,778,288 Investment banking 9.4 9.0 7.6 5.5 6.1


Accounts payable to brokerage clinets 63,682,354 38,013,807 36,956,823 38,835,498 43,516,720 Futures/derivatives 3.5 3.7 4.4 3.4 3.1

Financial assets sold under repo - 9,524,534 16,040,561 21,000,000 30,000,000 Others 2.7 2.8 1.8 4.1 3.9

Due to banks and other f inancial institutions 2,922,320 2,520,730 10,776,314 17,582,800 22,963,423 Commission and fee income 75.5 61.8 49.7 47.0 45.3



Bank and other borrow ings - - - - -

Others 196,136 72,018 149,963 2,649,963 8,649,963

Total non-current liabilities 196,136 72,018 149,963 2,649,963 8,649,963



Minority interests 1,149,384 1,568,267 1,750,913 1,984,855 2,260,691



Equities 5.0% 3.7% 2.6% 2.7% 2.4%

Investment banking 0.9% 0.9% 0.7% 0.5% 0.6%

Asset management 0.6% 0.9% 0.8% 0.7% 0.7%

Futures/derivatives 0.3% 0.4% 0.4% 0.3% 0.3%

Others 0.3% 0.3% 0.2% 0.4% 0.4%

Commission and fee income 7.1% 6.1% 4.6% 4.6% 4.4%

Interest income 1.4% 2.4% 2.5% 2.6% 3.0%

Net investment gains 0.9% 1.4% 2.1% 2.6% 2.4%

Other income and gains 0.2% 0.2% 0.2% 0.2% 0.2%

Total revenue and other income 9.6% 10.1% 9.5% 9.9% 10.0%

Operating expenses -5.4% -6.2% -5.9% -5.6% -5.6%

Operating profit 4.2% 3.9% 3.6% 4.4% 4.3%

Income tax expense -0.9% -0.9% -0.8% -1.0% -1.0%

Recurring net income (ROAA) 3.1% 2.9% 2.7% 3.2% 3.6%

Leverage (x) 2.7 2.4 2.2 2.3 2.5


ROAE 8.4% 6.9% 5.8% 7.4% 9.0%


38

Valuation and Recommendation

Initiating coverage with a BUY rating. We are initiating coverage of Haitong Securi-

ties (HTS) (6837.HK) with a BUY rating and a HK$14.40 price target, based on 1.65x

2014E PBR (equivalent to 18.8x 2014E PER). Although both CITIC Securities

(CITICS) and HTS offer a diversified revenue base to tap into the emerging China se-

curities industry, we believe the latter is more attractive in terms of valuation (1.39x

2014E PBR vs. CITICS’ 1.53x) with a higher ROAE (9% in 2014E vs. CITICS’ 7.5%).

Meanwhile, given that its net investment gains were driven more by fixed income prod-

ucts, the volatility is also lower than CITICS’. In addition, its business outlook should be

less uncertain compared with CITICS due to its focus on the mainland and Hong Kong

markets. CITICS’ acquisition of CLSA is an ambitious move to develop its international

business, which may be a positive in the medium to long term. However, it is still too

early to tell whether the integration is successful.

Target Price at HK$14.40 based on 1.65x 2014E PBR. We adopt the Gordon Growth

Model ((ROE-g)/(COE-g)) as our principal valuation method with a target PBR of 1.65x.

Due to the business nature of securities companies, PER may be easily affected by

short-term earnings volatility. Our 1.65x PBR is derived by using the following parame-

ters:

(a) risk-free rate of 3.33% (5-year average of US 10-year treasuries);

(b) 8% expected market return;

(c) beta at 1.26;

(d) cost of equity at 9.21% (the end result of the parameters above);

(e) 8% growth rate (we believe it is reasonable as the stock market in the long run should grow in tandem with GNP growth while it is still too early for the Chinese econo-my to achieve a nominal growth rate below 8%); and

(f) medium-term ROE of 10%.

In terms of current valuation, HTS is trading at 16x 2014E PER and 1.39x 2014E PBR. The company’s valuation represents a 22% discount to CITICS and 55% premium over China Galaxy Securities (CGS) in terms of PER. Using PBR as the benchmark, HTS is trading at 9% discount to CITICS and 23% over CGS. As HTS’ ROAE is higher than CITICS’ in 2013E and 2014E, we believe the former’s valuation is still undemanding on a relative basis.

39











Simple average 28.1 21.2 15.6 1.70 1.45 1.35 1.7 1.5 1.8



2012 -2014E





Simple average 31.5 33.1 32.1 6.4 7.9 9.3 2.6 3.0 3.2




currency)

Market cap

(US$m)2012 2013E 2014E 2012 2013E 2014E 2012 2013E 2014E 2012 2013E 2014E 2012 2013E 2014E




Simple average 28.1 21.2 15.6 1.70 1.45 1.35 1.7 1.5 1.8 6.4 7.9 9.3 2.6 3.0 3.2

















Simple average 65.9 33.5 28.0 2.04 1.83 1.73 1.5 1.7 1.6 5.1 6.4 7.6 2.1 2.7 3.0

Weight average 40.1 27.7 22.7 1.88 1.78 1.69 1.6 1.7 1.8 5.5 6.6 8.0 2.4 2.9 3.1





40

Figure 4: Rolling Forward PBR Range


Figure 5: Rolling Forward PER Range


1.0

1.1

1.2

1.3

1.4

1.5

1.6

1.7

1.8

Ap

r-12

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-12

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-12

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v-12

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-12

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-13

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-13

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r-13

May

-13

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-13

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g-13

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-13

Rolling forward PBR (x) Average


10.0

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25.0

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35.0

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r-12

May

-12

Jun

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Rolling forward PER (x) Average


41

Financial Analysis

Highest EPS growth in our sector coverage. We project HTS’ recurring EPS to grow

at a 38% CAGR between 2012 and 2014E. In 2013E, the 47% recurring EPS growth

will be driven mainly by (i) 26% growth in brokerage commissions thanks to strong

recovery of average daily turnover from RMB129bn in 2012 to >RMB190bn YTD; (ii)

23% growth of interest income in 2013E thanks to 141% increase in margin financing

balance and (iii) 47% growth of net investment gains in 2013E on the back of robust

growth of capital-based business (mainly fixed-income related). In 2014E, the 29%

recurring EPS growth will be supported by (i) 35% growth in interest income on the

back of 46% growth in the margin financing balance; (ii) 32% growth in fee income

from investment banking, thanks to the expected resumption of IPO activities and (iii)

earnings contribution from UT Capital, a finance lease company being acquired by

HTS, a process expected to be completed late this year or early next year. We fore-

cast UT Capital to contribute 9% of 2014E total net profit.

Figure 6: Key Projections and Assumptions

*Adjusted operating margin = (Total revenue – operating expenses)/(total revenue – commission and fee expenses – interest

expenses)

**Adjusted net margin = Net profit including minority interests/(total revenue – commission and fee expenses – interest expenses)


Y/E Dec 31 2010 2011 2012 2013E 2014E

RMB'000

Equities 5,938,693 3,933,956 2,894,924 3,634,297 3,910,555

Investment banking 1,039,162 960,006 798,645 734,528 969,755

Asset management 714,793 985,783 861,837 889,125 1,193,000

Futures/derivatives 392,719 393,150 466,497 456,375 494,513

Others 298,693 293,886 191,277 540,169 612,853


Interest income 1,647,007 2,553,171 2,876,735 3,539,383 4,791,090


Total revenue 11,108,857 10,626,878 10,492,604 13,314,271 15,855,866

YoY change 1% -4% -1% 27% 19%

Staff costs (2,619,668) (2,319,953) (2,142,298) (2,326,170) (2,439,000)


Other operating expenses (3,492,208) (3,853,373) (3,852,854) (3,984,064) (4,480,252)

Total operating expenses (6,393,365) (6,633,122) (6,699,556) (7,593,953) (9,079,648)


Adjusted operating margin* 48.9% 43.8% 42.3% 51.2% 53.2%

Recurring net profit 3,686,264 3,103,034 3,019,776 4,444,891 5,755,884

Adjusted net margin* 40.1% 36.0% 36.1% 41.9% 47.4%


YoY change -19% -16% -16% 47% 29%


Brokerage market share HTS 4.0% 4.1% 4.5% 4.7% 4.9%

Net commission rate of HTS 0.102% 0.081% 0.073% 0.065% 0.062%

Margin financing balance 2,091,000 3,916,142 7,049,196 16,953,108 24,833,731

Equities underwritten 49,657,700 15,091,000 7,854,358 18,941,063 15,091,890

Bonds underwritten 12,320,000 19,158,000 73,969,000 65,319,285 88,273,876


Cost-to-income 50.1% 54.8% 56.1% 47.8% 45.9%

42

Cost control more effective than peers. In the past few years (2010-2012), HTS’ cost-to-income ratio (ex-impairment) was lower than CITICS’ and CGS’. It clearly demonstrates HTS’ stringent operating cost control. We expect HTS’ cost-to-income ratio (ex-impairment) to continue to come down gradually to 44.3% in 2013E and 42.8% in 2014E.

Successfully reduced its reliance on brokerage commissions. In 2010, brokerage commissions accounted for 53.5% of its total revenue. Through rapid growth in interest income and net investment gains, the revenue contribution from brokerage commis-sions declined to 27.6% in 2012. As a result of steady growth in margin financing and capital-based business, we project the share of revenue from brokerage commissions to fall further to 24.7% in 2014E.



Figure 7: Cost-to-income Ratio (ex-impairment) (%)


40

45

50

55

60

65

70

75

80

2010 2011 2012 2013E 2014E

Haitong Securities CITIC Securities Galaxy Securities

% 2010 2011 2012 2013E 2014E

Equities 53.5 37.0 27.6 27.3 24.7



Futures/derivatives 3.5 3.7 4.4 3.4 3.1

Others 2.7 2.8 1.8 4.1 3.9


Interest income 14.8 24.0 27.4 26.6 30.2


43

Stable growth in net investment gains due to light exposure to equities. HTS’ net investment gains maintained a stable upward trend in the past few years. In contrast to CITICS, HTS has a much lower exposure to equities in its proprietary trading portfolio. The company’s value of equity securities and derivatives held/net capital was only 19.5% in 1H13, much lower than CITICS’ 59.1%. On the other hand, HTS’ value of fixed-income securities held/net capital was 80.5% in 1H13, which reduced earnings volatility and explained the reason for the stable growth of investment gains.

Recovery of ROAE to 9% in 2014E. HTS’ ROAE reached a low level of 5.8% in 2012 as a result of unfavourable market conditions and enlarged equity base following the IPO in Hong Kong. However, through expansion of capital-based business and acqui-sitions (e.g. the recently announced acquisition of UT Capital, a finance lease compa-ny), we project the company’s leverage (average total asset/average total equity) to increase from 2.2x in 2012 to 2.5x in 2014E. The company has already got the approv-al from the authorities to issue corporate bonds up to RMB23bn within 24 months. We also expect HTS’ return on average assets (ROAA) to recover from 2.68% in 2012 to 3.56% in 2014E due to improving market conditions (brokerage and investment bank) and rapid growth in margin financing and other capital-based business. As a result, we forecast the company’s ROAE to increase from the low point of 5.8% in 2012 to 9% in 2014E.

Figure 9: HTS’ Stable Growth in Net Investment Income (RMB bn)


-

1,000

2,000

3,000

4,000

5,000

6,000

7,000

2010 2011 2012 2013E 2014E

Haitong Securities CITIC Securities

44

Figure 10: HTS’ Leverage and ROAE


2.0

3.0

4.0

5.0

6.0

7.0

8.0

9.0

10.0

1.5

1.7

1.9

2.1

2.3

2.5

2.7

2.9

2010 2011 2012 2013E 2014E

Average total asset/average total equity (x) (LHS)

ROAA (%)

ROAE (%)


Unit: % 2013E 2014E








45

Company Background

Haitong Securities (HTS) is one of the major full-service investment banks in China. It was founded in 1988 with the Shanghai branch of Bank of Communications as the then major shareholder. It is one of the earliest securities companies to be established on the mainland. The company is the second biggest securities company based on total assets at end-2012. In terms of equity trading value, HTS was the fourth largest broker in China with a market share of 4.54% last year. Between 2010 and August 2013 the company ranked seventh in the equity underwriting market with a market share of 4.1%, according to WIND Info. In the bond underwriting market, it also ranked sixth among investment banks in 2012. HTS was listed on the Shanghai Stock Exchange and the Hong Kong Stock Exchange

on July 31, 2007 and April 27, 2012, respectively. Following a development of more

than 25 years, the company’s shareholder base has become highly diversified and

some major shareholders are shown as follows.

Figure 12: Shareholding Structure

Source: Company

Bright Food (Group)4.43%

Shanghai Haiyan

Investment Management

4.18%

Shanghai Electric (Group)

3.93%

Shenergy Group3.36%

Others84.10%

46

Investment Risks

The overall economy is susceptible to domestic and global risk, resulting in a sub-

stantial downturn in market turnover. This would undermine HTS’ brokerage, sales & trading activities.

Domestic investor sentiment remains uncertain, and the volatility in China’s equity

market may continue for a prolonged period, although that is not our base case.

Increased online trading activity may erode commissions and attract broking cli-

ents away from traditional securities companies. In addition, internet giants such as Tencent and Alibaba are trying to develop financial businesses, which may become formidable competitors in the future.

China may suffer rapid acceleration in inflation, driven by excess credit and rising

global commodity prices. Response to this could be monetary tightening and rising interest rates, undermining corporate earnings and bond market valuations. Unex-pected volatility in interbank rates for a prolonged period may also affect bond valuations and the funding cost of the company.

The suspension in initial public offerings (IPOs) may continue longer than ex-

pected, reducing scope for investment banking operations.

Commercial banks respond to securities companies’ incursion into interbank mar-

ket by offering more proactive wealth management products; by defending their positions in FICC; and possibly by entering the direct market access/flow market with low-margin products.

China’s domestic market is open to foreign brokers. While this seems improbable

today, the pressure on China to open its financial markets is already intense, and will be maintained. In China, foreign brokers account for less than 5% of institu-tional brokerage revenues, compared with >60% in India.

Quantitative trading has a relatively short history in China. Any trading errors may

cause significant losses to the company.

Regulatory changes could affect the business environment for securities compa-

nies.

Generally increased competition in investment banking and investment manage-

ment businesses could erode fees in these sectors

47

China Galaxy Securities [6881.HK]

BUY


Target Price: HK$7.60 (44%)

Price Performance



Auditor Deloitte

Free Float 21.3%

52W range HK$4.02-5.90


Major Shareholder China Galaxy Financial

Holdings (69.2%)



(852) 3698-6317

[email protected]


(852) 3698 6889

[email protected]



We reiterate our BUY call on China Galaxy Securities (CGS) and maintain the price tar-get of HK$7.60, based on 1.6x 2014E PBR derived by Gordon Growth Model. CGS is trading at 26% discount to CITIC Securities (CITICS) and 19% discount to Haitong Secu-rities (HTS) in terms of PBR. We believe this large valuation gap ignores the point that CGS’ 2013E and 2014E ROAE is higher than that of CITICS and HTS. In terms of 2014E PER, we don’t see very strong reasons to justify why CGS should trade at a 50% dis-count to CITICS and 36% to HTS. We see at least three catalysts to trigger a re-rating: (i) A-share IPO in 2014 or 2015 to narrow the difference in size in terms of market cap; (ii) a more balanced revenue mix driven by capital-based business and (iii) room to lower cost-to-income ratio relative to peers.


Re-rating catalyst #1: A-share IPO. Through our discussion with investors, we

understand that some investors just ignored CGS due to its “small” size (In ab-solute terms, its market cap of >US$5bn is not small but it is only equivalent to 23% of CITICS and 27% of HTS.). The A-share IPO, which is still under prepa-ration, is likely to be launched in 2014 or 2015. It will not just narrow the market cap gap but will allow the company to enjoy the benefits of the dual fund-raising platform, an advantage already enjoyed by CITICS and HTS.

Re-rating catalyst #2: A diversifying revenue mix. In 1H13, 49% of CGS’

revenue was contributed by brokerage commission, much higher than CITICS’ and HTS’ (~27%-30%). Some investors have concerns about the potential high-er earnings volatility due to heavy reliance on the brokerage business. However, we expect the ratio to decline to 41% in 2014E, thanks to rapid growth in inter-est income (44% increase projected next year, mainly from margin financing).

Re-rating catalyst #3: Potential to lower cost-to-income ratio. In the past,

the company’s cost-to-income was above CITICS’ and HTS’ due to heavy expo-sure to the brokerage business. As a result of fast expansion in capital-based business, which is not labour intensive, we forecast CGS’ cost-to-income ratio to fall from 66.2% in 2012 to 54.2% in 2014E.

High ROAE vs. deep discount to peers. We expect CGS’ ROAE to reach

10.7% in 2013E and 11.2% in 2014E, much higher than CITICS’ 7.5% in 2014E and HTS’ 9% for next year. As we mentioned at the beginning, CGS is trading at >20% discount in terms of PBR compared with the two major peers. It is not justifiable, in our view, and we believe the three catalysts above should help narrow the gap.

LARGE ROOM TO NARROW VALUATION GAP; REITERATE BUY

0

500

1000

1500

2000

2500

3000

0

1

2

3

4

5

6

May13 Jun13 Jul13 Aug13 Sep13

(HK$ million)(HK$)


Y/E Dec 31 2010 2011 2012 2013E 2014E

Turnover (RMB m) 8,460 6,431 5,962 8,191 10,252


Adjusted net margin (%) 35 27 26 32 35


% Change n.a. (43) (10) 30 31

PER (x) 10.0 16.7 18.2 13.8 10.3

PBR (x) 2.2 2.0 1.8 1.2 1.1

ROAA (%) n.a. 2.1 2.3 3.1 3.2

ROAE (%) n.a. 10.4 8.5 10.7 11.2

48

Key financials

China Galaxy Securities (06881.HK)

Income Statement


Year ended 31 Dec 2010 2011 2012 2013E 2014E

Equities 5,813,563 3,672,683 2,732,345 3,884,577 4,217,718

Investment banking 715,237 634,166 674,864 404,796 699,697

Futures and options 253,297 267,465 337,734 325,663 338,196

Asset management 31,269 27,169 41,231 125,592 268,900

Others 55,824 62,709 44,372 78,326 99,224


Interest income 1,243,137 1,629,268 1,698,648 2,427,079 3,502,488

Net investment gains 313,626 104,410 394,813 904,490 1,083,750

Total revenue 8,425,953 6,397,870 5,924,007 8,150,523 10,209,972



Staff costs (2,173,259) (1,812,397) (1,870,806) (2,296,140) (2,618,000)

Commission and fee expenses (209,006) (168,973) (107,650) (134,931) (157,465)

Interest expenses (328,949) (309,322) (279,105) (733,708) (1,221,327)

Others (1,858,341) (1,879,369) (1,817,686) (1,935,389) (2,193,592)



Non-recurrent items - - - - -


Income tax expense (1,100,157) (676,138) (453,775) (757,137) (995,089)


Net income 2,777,016 1,578,130 1,419,779 2,309,886 3,035,834


EPS (RMB) 0.463 0.263 0.237 0.306 0.403


DPS (RMB) - - - 0.046 0.060


Brokerage market share of Galaxy (%) 5.1 5.1 5.1 5.2 5.3

Net commission rate of Galaxy (%) 0.100 0.081 0.081 0.081 0.079

Margin f inancing balance 533,000 2,558,000 5,377,000 16,633,238 24,346,795

Staff cost-to-income (%) 27.4 30.4 33.6 31.4 29.5

Cost-to-income (%) 50.9 62.0 66.2 57.8 54.2

Cost-to-income (ex-impairment) 50.6 61.7 65.7 57.1 53.7

Growth Rates:

Commission and fee income n.a. -32% -18% 26% 17%

Interest income n.a. 31% 4% 43% 44%

Net investment gains n.a. -67% 278% 129% 20%

Total revenue and other income n.a. -24% -7% 37% 25%

Operating profit n.a. -42% -17% 64% 31%

Recurring net income n.a. -43% -10% 63% 31%

Recurring EPS n.a. -43% -10% 30% 31%

Margins and Ratios:





49

Key financials

China Galaxy Securities (06881.HK)



As at 31 Dec 2010 2011 2012 2013E 2014E 2010 2011 2012 2013E 2014E


Advances to customers 532,829 2,548,727 5,438,668 16,633,238 24,346,795 EPS grow th (%) n.a. 43- 10- 30 31

Others 27,617,186 6,300,646 8,060,280 8,425,093 10,550,773 Yield (%) n.a. n.a. n.a. 1.1 1.5

Cash held on behalf of customers 50,758,909 36,183,766 33,151,989 36,973,682 41,135,768 Payout ratio (%) n.a. n.a. n.a. 15 15




PPE, net 608,777 583,943 515,600 467,363 419,126 ROAA (%) n.a. 2.06 2.30 3.07 3.15

Financial assets 324,220 391,136 742,976 650,000 687,000 ROAE (%) n.a. 10.4 8.5 10.7 11.2

Others 1,006,955 881,459 760,474 665,474 595,474


Equities 69.0 57.4 46.1 47.7 41.3

Total assets 94,264,529 59,214,735 64,295,584 86,106,098 106,447,036 Investment banking 8.5 9.9 11.4 5.0 6.9

Futures and options 3.0 4.2 5.7 4.0 3.3

Accounts payable to brokerage clinets 76,794,509 41,231,089 39,745,629 43,185,873 47,822,121 Asset management 0.4 0.4 0.7 1.5 2.6

Financial assets sold under repo - 2,602 5,183,436 9,159,436 12,684,436 Others 0.7 1.0 0.7 1.0 1.0

Due to banks and other f inancial institutions - - 318,858 2,546,238 8,259,795 Commission and fee income 81.5 72.9 64.7 59.1 55.1



Bank and other borrow ings - - - - -

Others - - - - -

Total non-current liabilities - - - - -



Minority interests 84,443 122,656 128,989 252,413 283,078



Equities 4.8% 4.4% 5.2% 4.4%

Investment banking 0.8% 1.1% 0.5% 0.7%

Futures and options 0.3% 0.5% 0.4% 0.4%

Asset management 0.0% 0.1% 0.2% 0.3%

Others 0.1% 0.1% 0.1% 0.1%

Commission and fee income 6.1% 6.2% 6.4% 5.8%

Interest income 2.1% 2.8% 3.2% 3.6%

Net investment gains 0.1% 0.6% 1.2% 1.1%

Other income and gains 0.0% 0.1% 0.1% 0.0%

Total revenue and other income 8.4% 9.7% 10.9% 10.6%

Operating expenses -5.4% -6.6% -6.8% -6.4%

Operating profit 2.9% 3.1% 4.1% 4.2%

Income tax expense -0.9% -0.7% -1.0% -1.0%

Recurring net income (ROAA) 2.1% 2.3% 3.1% 3.2%

Leverage (x) 5.0 3.7 3.5 3.6

Non-client asset/net asset (x) 1.1 1.4 1.7 2.0

ROAE 10.4% 8.5% 10.7% 11.2%


50











Simple average 28.1 21.2 15.6 1.70 1.45 1.35 1.7 1.5 1.8



2012 -2014E





Simple average 31.5 33.1 32.1 6.4 7.9 9.3 2.6 3.0 3.2




currency)

Market cap

(US$m)2012 2013E 2014E 2012 2013E 2014E 2012 2013E 2014E 2012 2013E 2014E 2012 2013E 2014E




Simple average 28.1 21.2 15.6 1.70 1.45 1.35 1.7 1.5 1.8 6.4 7.9 9.3 2.6 3.0 3.2

















Simple average 65.9 33.5 28.0 2.04 1.83 1.73 1.5 1.7 1.6 5.1 6.4 7.6 2.1 2.7 3.0

Weight average 40.1 27.7 22.7 1.88 1.78 1.69 1.6 1.7 1.8 5.5 6.6 8.0 2.4 2.9 3.1





51



Figure 5: Cost-to-income Ratio of CGS


% 2010 2011 2012 2013E 2014E

Equities 69.0 57.4 46.1 47.7 41.3


Futures and options 3.0 4.2 5.7 4.0 3.3


Others 0.7 1.0 0.7 1.0 1.0


Interest income 14.8 25.5 28.7 29.8 34.3


27 30

34 31

30

51

62

66

58 54

20

25

30

35

40

45

50

55

60

65

70

2010 2011 2012 2013E 2014E

Staff cost-to-income (%) Cost-to-income (%)


Unit: % 2013E 2014E








52

DISCLAIMER For private perusal only. This report (including any information attached) is issued by China Galaxy International Securities (Hong Kong) Co., Limited, one of the

subsidiaries of the China Galaxy International Financial Holdings Limited, to individual addressees whether they are professional, institutional clients or other-

wise, in good faith from sources believed to be reliable, but no representation or warranty (expressly or implied) is made as to their accuracy, correctness and/or

completeness. Where any part of the information, opinions or estimates contained herein reflects the personal views and opinions of the analyst who prepared

this report, such views and opinions may not correspond to the published view of China Galaxy International Financial Holdings Limited and any of its subsidiar-

ies. This report shall not be construed as an offer, invitation or solicitation to buy or sell any securities of the company or companies referred to herein. All opin-

ions and estimates reflect the judgment of the analyst on the date of this report and are subject to change without notice.

China Galaxy International Financial Holdings and its group companies may have business relationships with companies covered in research reports, including

investment banking and related services, e.g. placing agent, lead manager, sponsor, underwriter or proprietary investor.

Please take note that member companies of China Galaxy International Financial Holdings Limited (including but not limited to China Galaxy International Securi-

ties (Hong Kong) Co., Ltd) and/or their directors, officers, agents and employees (“the Relevant Parties”) may have an interest in securities of the company or

companies referred to in this report. The Relevant Parties hereby disclaim any of their liabilities arising from the inaccuracy, incorrectness and incompleteness of

this report and its attachment/s and/or any action or omission made in reliance thereof. Accordingly, this report must be read in conjunction with this disclaimer.

The disclosures below refer to the relationships between China Galaxy International Securities (Hong Kong) Co. Ltd. (CGI) and companies covered by CGI Re-

search and referred to in this research.

CGI has received compensation for investment banking services in the past 12 months: China Galaxy Securities (HK$5.29)

CGI expects to receive or intends to seek compensation for investment banking services in the next three months: China Galaxy Securities (HK$5.29)

CGI had an investment banking services client relationship during the past 12 months with China Galaxy Securities (HK$5.29)

CGI has managed or co-managed a public offering in the past 12 months: China Galaxy Securities (HK$5.29)

COPYRIGHT RESERVED

China Galaxy International Securities (Hong Kong) Co. Limited, CE No.AXM459, Room 3501-3507, 35/F, Cosco Tower, Grand Millennium

Plaza, 183 Queen’s Road Central, Sheung Wan, Hong Kong. General line: 3698-6888.

Analyst Certification The research analyst who is primarily responsible for the content of this research report, in whole or in part, certifies that with respect to the

securities or issuer covered in this report: (1) all of the views expressed accurately reflect his or her personal views about the subject, securi-

ties or issuer; and (2) no part of his or her compensation was, is, or will be, directly or indirectly, related to the specific views expressed by the

analyst in this report.

Besides, the analyst confirms that neither the analyst nor his/her associates (as defined in the code of conduct issued by The Hong Kong

Securities and Futures Commission) (1) have dealt in or traded in the stock(s) covered in this research report within 30 calendar days prior to

the date of issue of this report; (2) will deal in or trade in the stock(s) covered in this research report three business days after the date of issue

of this report; (3) serve as an officer of any of the Hong Kong -listed companies covered in this report; and (4) have any financial interests in

the Hong Kong listed companies covered in this report.

Explanation on Equity Ratings

· BUY – share price will increase by >20% within 12 months in absolute terms

· SELL – share price will decrease by >20% within 12 months in absolute terms

· HOLD – no clear catalyst, and downgraded from BUY pending clearer signal to reinstate BUY or further downgrade to outright SELL

Documents

China Securities Sector · China Securities Sector October 7, 2013 Wong Chi Man—Senior Analyst (852) 3698-6317 [email protected] John Mulcahy—Head of Research EPS Growth