Private credit might be less attractive than it was last year as investors rush into the market, but there are sweet spots to be found.
This has been on the industryÆs wish list for three years, with hopes raised on numerous occasions that the Chinese Securities Regulatory Commission would give this the green light.
An important step was taken in 2004 when the National Council for Social Security Fund was given permission to mandate domestic fund managers on a discretionary account basis. It hired an initial six managers and has gradually expanded that program.
But this activity was always specifically allowed by the State Council and continues to exist as a pilot scheme. Hopes raised at the time for discretionary accounts to be written into regulation have yet to be realised.
Since ChinaÆs bull market took off early last year, fund management companies have not made this a priority. The expansion of the qualified domestic institutional investor program has also seized their imaginations. Moreover, institutions like mutual funds because these are liquid and suitable for trading purposes, whereas accounts canÆt be easily opened and closed. But discretionary accounts will be an important activity over the long term.
Zhan Long, executive deputy general manager at China Merchants Fund Management in Shenzhen, says discretionary business will be necessary in the event of a market correction that scares off many retail investors. ôDiscretionary business will be valuable in bad years,ö he says. ôWhen markets fall, some fund management companies could fail if they canÆt do well in both retail and institutional business.ö
The CSRC has resisted allowing this business because of the experience of securities houses, which have long been able to offer discretionary accounts to institutions. The typical practice was to guarantee returns û often high returns û and to borrow in order to meet these obligations. A lot of these deals were made during ChinaÆs four-year bear market, from 2002 to 2006, and is a big reason why securities companies went bankrupt. The entire industry was considered insolvent but the recent bull run in equities has revived its fortunes.
The mutual funds industry is considered better regulated and has a good reputation. The CSRC deserves some credit for this, and it has been reluctant to risk this over discretionary mandates.
Until recently, corporations and other institutions were unwilling to engage in discretionary business without a guarantee. That may be changing, however. Chen Ding, managing director for institutional and international business at China Southern Fund Management in Shenzhen, says some securities houses are now beginning to charge institutions a fee for managing their money, without guarantees. ôSome clients will accept this,ö she says.
Fund houses report the CSRC is circulating a draft document allowing the big, established fund companies to engage in discretionary business. To do so will require fund companies have registered capital of RMB150 million, up from the industry standard of RMB100 million. The more important requirement is that fund houses have at least RMB200 million ($26 million) in net assets under management. About a dozen firms currently qualify in the $148 billion industry.
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