Stewart Aldcroft is senior adviser for investor services at Citi
Hong Kong and mainland China regulators are working on the details of a mutual recognition agreement for investment funds – a regulatory change that promises to be one of the most significant developments for Hong Kong’s fund management industry in a generation.
Ability to access the $2 trillion mainland funds market without a joint-venture fund management company is the potential game-changer that Hong Kong has been waiting for since China began to open up its markets. Being in position to take advantage of it is crucial for global investment managers.
The Chinese market is dominated by local players offering a relatively limited array of local funds, which invest only in China-listed securities. This has created pent-up demand for new products.
The framework of the agreement is still under discussion, and the industry has many questions about what form it will take. However, Hong Kong’s Securities and Futures Commission (SFC) has provided enough details for the investment management industry to start preparing for change.
Central to the scheme is that in order for a fund to be mutually recognised and qualified for distribution in the mainland, it will have to be domiciled in Hong Kong and authorised by the SFC. This is the starting point for international managers eager to take part in this exciting new opportunity.
Of the 2,200 plus SFC-authorised funds, only about 10%, or approximately 200 funds, would currently qualify for this recognition scheme.
Local trustees such as CitiTrust Limited play a crucial role in helping managers to create Hong Kong domiciled funds, build a track record of local performance and ensure that their products meet mutual recognition criteria.
While mutual recognition could be the watershed for Hong Kong as a fund domicile, it is only one of the many benefits to domiciling in the city, ranging from lower costs to simpler regulatory compliance to reduced time to market.
Access to Hong Kong’s $55 billion Mandatory Provident Fund market is another incentive, as the scheme requires eligible funds to be domiciled in Hong Kong.
The expense of managing a fund has also been rising, and it is expected that creating local funds in Hong Kong will result in lower costs than European domiciles offer.
The European Union has made an increasing number of changes to their funds regulations in recent years. Many of the changes have little relevance in Asia, creating unnecessary regulatory compliance obligations for managers targeting the Asian market. In addition, all of the changes introduced by Ucits must also be approved by the SFC.
Creating a fund for the local market, instead of more universal Ucits product, can also result in a shorter time to market. The use of derivatives in a fund’s investment objectives has proven to extend the approval time greatly in Hong Kong. Authorisation times can be reduced by not including the use of derivatives in an Asia-oriented fund and domiciling it in Hong Kong.
Hong Kong funds offered into China will likely need to be denominated in renminbi (RMB). The SFC has so far not authorised RMB funds for retail distribution in Hong Kong due to currency liquidity concerns. However, these concerns are fading, and there is increased interest in creating RMB-dominated funds for the Hong Kong market, and eventually the mainland market.
Fund managers targeting the mainland market will need to consider what strategies may appeal to Chinese investors. Global or regional themes that relate to China’s growing international footprint, funds that target countries such as Australia for its resources or Africa, where China is a major investor, could prove popular.
The full benefits of mutual recognition may take several years to develop, but fund managers can prepare themselves today. The first step is to domicile funds in Hong Kong, and create a track record as an SFC-authorised fund.
Please click here to read the full article by Stewart Aldcroft, Citi’s senior adviser for investor services within its securities and fund services business, to learn more about how you can take advantage of this new opportunity.
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