CITIC Securities: Leveraging increase expected to drive the reshaping of the securities industry valuation, optimistic about the performance of top securities firms.

CITIC SEC released a research report stating that the securities industry's profit in 2025 will reach a historical high, but the stock price performance lags behind previous bull market cycles significantly. Reviewing the history, the industry has gone through the evolution from "driven by single brokerage business" to "opening up incremental space through innovative business" to "business cycles driven by policy cycles". From the perspective of ROE, leveraged growth contributed to both domestic and overseas businesses, deepening the improvement of existing services steadily raised ROA, mergers and restructurings improved industry capital operation efficiency, and stable policies and operations reduced performance fluctuations. The sector's investment value is expected to be reshaped during the "13th Five-Year Plan" period. Recommendations focus on two investment main lines: 1) Building first-class investment banks, with the ability to increase market share, net profit margin, and leverage, and 2) Medium-sized securities companies that are expected to enter the top echelon through mergers, restructurings, and refined operations. CITIC SEC's main points are as follows: Historical review: Three stages of evolution, with profit models and policy impacts iteratively evolving. Looking back from 2003 to 2025, the securities sector has experienced three rounds of investment logic evolution: 1) 2003-2011 (brokerage-driven period): the industry was in the stage of high ROE with light assets, strong fundamental performance driven by trading volume and high commission rates, price elasticity strengthened by scarce targets; 2) 2012-2017 (innovation and expansion period): the "innovation conference" opened up a period of heavy capital business development, the internet operation broke the constraints of physical networks in acquiring customers, and stock prices were driven by both fundamental elasticity and expectations of loose policies; 3) 2018-2025 (policy-driven period): the establishment of heavy assets characteristics in the industry resulted in a decrease in ROE elasticity, and changes in regulatory cycles on the policy side became a key factor in determining the industry's alpha attributes. Conclusion: Decrease in ROE elasticity, fluctuations in policy expectations, and the surge in listed targets are important reasons for the sector's valuation pressure. 1) Pressure on ROE elasticity due to heavy assets and low capital business rates, leading to the industry's ROE no longer being significantly superior to other sectors during bull market periods; 2) The continued increase in the impact of policy on the policy side and clear cycles make it difficult to build robust growth expectations for the industry. During periods of strict regulatory control, the securities sector will face various challenges in terms of fundamentals and capital. 3) The surge in the number of listed targets has made industry targets lose their scarcity on the investment side, with low capital utilization efficiency for small and medium-sized institutions further dragging down the industry's average capital return. Future outlook: The "13th Five-Year Plan" period is expected to see "four changes," reshaping the industry's investment value. ROE is expected to shift from "continuous decline" to "gradual improvement," with leverage boosting the reshaping of the core of ROE. The increase in leverage is expected to become the core logic of this valuation reshaping cycle. Domestically, optimizing risk indicators and macro regulatory guidance will loosen the constraints on leverage, allowing the securities industry to improve ROE through the leverage effect brought about by derivative demand-driven equity multiplication; internationally, leading securities firms' international operations are rapidly developing and the operational leverage is significantly higher than domestic levels, with some subsidiaries achieving ROEs of over 20% on an annualized basis. With this momentum, the bank expects the industry's central ROE to advance from 7%-8% to over 10% during the "13th Five-Year Plan" period, and the leading securities firms' ROE to leap from 8% to over 12%. Development is shifting from "focused innovation" to "tapping potential of existing services," improving single-client value through specialized services. The coverage ratio of investors in China's capital markets is approaching that of the United States, but there is still room for over a doubling in the proportion of stock and equity fund assets in residents' portfolios, providing significant development space for investment advisory businesses. Based on this, the bank believes that domestic securities companies are expected to accelerate catching up with international first-class investment banks in terms of single-client income, moving from around 1,000 RMB in single-client profit for leading institutions to around 3,000 RMB for offshore investment banks, breaking out of the downward trend in light capital business rates and creating room for improving industry ROA. The structure is shifting from "diversity" to "selective excellence and limitation," optimizing capital efficiency through mergers and restructurings. Since 2018, excessive IPOs and follow-on financing by low-ROE institutions within the industry have become a significant reason for dragging down the industry's capital efficiency. According to company reports and Wind statistics, 44% of fundraising projects in the past five years never surpassed the ROE levels of the year of financing in the following three years. With the goal to establish 10 comprehensive institutions to lead industry development in the next five years and to build 2-3 world-class international investment banks by 2035, the bank believes that mergers and restructurings are likely to become the core path for reshaping the industry's structure, accelerating the concentration of industry capital towards leading institutions, and enhancing capital operation efficiency through optimizing industry capital allocation. Management is shifting from "obvious fluctuations" to "steady development," reducing profit fluctuations through customer service. The "13th Five-Year Plan" determines to "actively develop direct financing such as equity and bonds, steadily develop futures, derivatives, and asset securitization." The regulatory authorities will promote more sophisticated and inclusive counter-cyclical adjustments around the balance of investment and financing, stabilizing policy expectations; operationally, according to discussions by management in company reports for 2024 and 2025 interim reports, leading securities firms continue to transform their investment trading businesses towards de-risking, reducing fluctuations in investment income, with returns from heavy asset businesses stabilizing at around 2%, and the impact of market volatility on performance gradually narrowing. Based on this, the bank believes that the industry's long-term investment value is expected to be gradually established. Risk factors: Deepening reforms in the capital market and policy implementation falling short of expectations, significant fluctuations in the equity market leading to a decline in investment income, mergers and restructurings integration effects falling short of expectations, risks in the internationalization strategy being hindered, risks of declining competition rates for existing services, and risks of excessive refinancing in the industry.