China’s FoFs face obstacles to growth potential

The funds of funds industry in China has enormous potential, but fund houses need to build capabilities and track records in order to exploit it, said participants and observers.
China’s FoFs face obstacles to growth potential

China’s newly opened retail funds of funds (FoF) market has enormous potential, but it will take years to realise as local investors familiarise themselves with the products and fund houses build track records, say market participants.

Six asset managers, namely ChinaAMC, China Southern, CCB Principal, Harvest, HFT and Manulife Teda, obtained written consents from the China Securities Regulatory Commission (CSRC) to lauch FoFs last week. The products invest into other mutual funds with various underlying assets.

The six fund managers confirmed to AsianInvestor that they need to roll out the approved products within six months.

The growth potential of the FoF market in China is huge. Local investors are demanding better asset allocation and stable investment returns, said Rachel Wang, director of Chinese fund manager research at Morningstar, an investment research firm.

“There are a lot of fund products in the [China] market now, no matter whether it's [regarding] the scope of products or the types of single strategies. What investors lack is the know-how for asset allocation and product selection," she told AsianInvestor.

Morningstar has become a research partner with China Southern for its fledgling FoF business.

They have grown to appreciate that funds investing in a single asset classes have higher volatility and find it difficult to ensure stable annual returns, a Harvest spokesperson told AsianInvestor in a reply to emailed questions.

The funds managers are eager to take advantage of the growth engine that FoFs offer them. According to information disclosed by CSRC, 44 asset managers are still seeking approval to launch 90 FoFs. That compares to the 62 applications submitted by 31 fund houses as of April 1.

The securities regulator did not reply to AsianInvestor’s facsimile query over the timing of further FOF approvals or its key criteria for approving such funds by press time.

Long-term growth

FoFs already enjoy sizeable market shares in other countries and account for 10% of mutual fund AUM in the US, equivalent to $7 billion.

But there are many obstacles FoF managers need to overcome before the products account for even 1% of China’s Rmb10.68 trillion mutual fund industry, said Wang.

Creating and operating FoFs takes a set of skills that many Chinese fund managers need to hone.

Most retail fund managers operating on the mainland tend to concentrate on certain types of asset classes. But FoFs need to be able to correctly allocate assets across multiple asset strategies, said Melody Yang, a counsel at international law firm Simmons & Simmons.

“There are more requirements imposed on the asset management team of the fund managers. That's why I think the regulators have taken a cautious approach when they are issuing the licenses for the first batch of FoF products," Yang said.

Some of the biggest Chinese fund houses have been setting up teams to develop FoF expertise since mid-2016. But it still is not easy. There are more than 4,000 mutual funds in the current market, which makes it challenging for fund managers to conduct fund selections, HFT said in an email reply to AsianInvestor

Making timely and accurate valuations of the AUM in FoFs is also a challenge. The method of valuing the underlying funds in FoFs is very different to how equities or fixed income products are assessed, said Yang.

And while fund managers operating private funds can agree with investors over the frequency of the AUM disclosure, they are often required to disclose the valuation on a daily basis for retail investors, she added.

Added to all of this, the nascent investment vehicles have yet to be tested by market cycles. As a result of this, it will likely take several years for fund managers build track records and for investors to invest sizeable amounts into the products, said Wang from Morningstar.

To read the first part of AsianInvestor’s focus on China’s emerging funds of funds industry, please click here

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