Major Chinese State Firms Told to Keep a Closer Eye on Their Derivative Trading
What’s new: China’s major nonfinancial state-owned enterprises (SOEs) have been ordered to take a hard look their derivative-trading subsidiaries to make sure they can handle risks and afford the losses of buying and selling the risky financial instruments.
The State Council’s State-owned Assets Supervision and Administration Commission (SASAC), which oversees China’s central government-administrated nonfinancial SOEs, said in a Friday statement (link in Chinese) that some of the SOEs had not performed thorough enough examinations before approving the financial derivatives trading activities of their subsidiaries.
This lax oversight left these companies in violation of SASAC rules (link in Chinese) released last year. The rules ban the subsidiaries of the SOEs it regulates from trading financial derivatives if they have an unusually high liability-to-asset ratio and have reported losses for each of the previous three years.
All of the SOEs have to conduct a self-inspection every three years and bar ineligible subsidiaries from trading in the financial instruments, SASAC said. They will need to finish the first of these inspections by June 30.
The background: A derivative is a contract whose value fluctuates based on the price of an underlying asset, like a commodity or stock. Businesses and investors can use these financial instruments to hedge against unfavorable price changes, such as an airline buying oil futures to cushion itself from a jump in the price of jet fuel.
Derivatives are also seen as something of a double-edged sword because their values can swing wildly at times as they are usually leveraged.
China tightened these restrictions on SOEs after several enterprises suffered heavy losses trading derivatives. In 2018, a subsidiary of a top Chinese oil refiner lost around 4.65 billion yuan ($718.1 million), chiefly due to its use of the instruments to bet on the price of crude oil.
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