The China Banking Regulatory Commission (CBRC) has vented anger at widespread disregard for investor protection and poor risk control among consumer banks selling mutual funds, according to a memo the regulator sent to distributors, a copy of which has been forwarded to AsianInvestor. It says it plans to conduct secret audits of bank branches to investigate possible abuses and mis-selling.

This comes at a time when the A-share market is in free-fall. The Shanghai Composite Index fell nearly 4% last week, the worst weekly finish in 11 years, to close at a year-low of 3,094 points. The index has declined 41% year-to-date, after doubling in value in 2007.

But the real impetus for CBRC's actions, according to fund industry executives, is the loss incurred by a Minsheng Bank QDII product, structured by UBS using an underlying fund managed by Baring Asset Management. The product had the misfortune of being launched on October 31 last year, the day after Hong KongÆs Hang Seng Index reached what turned out to be its peak.

The CBRCÆs memo expresses the regulatorÆs concern that banks are creating investment products with inappropriate levels of risk. It says some banksÆ manner of calculating yields for their wealth-management portfolios donÆt add up, going as far as to accuse them of a ôcomplete lackö of risk management in identifying and quantifying product risk.

The industry, says the memo, has failed to understand and assess products in its negotiation with external product providers. The CBRC says banks had failed to assess track record, investment market and risk control capability of these external fund-management companies. Most importantly, fiduciary duties and risk clauses between product procurer and supplier have gone ignored.

The CBRC highlighted 14 areas where banks are failing as distributors, including violations of the Regulation on Personal Wealth Management Business, as well as areas related to customer evaluation, product advice, disclosure, the management of salespeople and customer communication.

No banks have been singled out for punishment but the sector has been warned to clean up its act, adding that the CBRC will conduct secret investigations of branch sales of investment products.

The full story, including the impact this will have on QDII business, will appear in the May edition of AsianInvestor magazine.