China’s state pension fund and its fund regulatory body welcomed the country’s approval of funds of funds for use, but they and other experts caution that investors need to carefully scrutinise the vehicles before using them.

After months of planning, the China Securities Regulatory Commission (CSRC) initially approved six local FoFs* on September 7 and 8. The move gained the cautious support of Wang Zhongmin, vice chairman of the National Council for Social Security Fund (NCSSF), China’s state reserve pension fund, and Hong Lei, chairman of the Asset Management Association of China (Amac).

The two executives offered remarks on FoFs on September 6, while attending the first meeting of a new dedicated pension fund committee that had been created by Amac to improve China’s retirement system.

Wang said large asset owners should use FoFs or manager of managers (MoM) strategies to diversify investments or improve asset allocation. But he cautioned that asset owners should transparently select managers, with an eye on long-term returns. Other market participants agree with his view.

“FoF is a hot topic in China, but not all the FoFs come with good strategies. Investors need to study each FoF’s strategies and portfolios carefully,” a senior executive at a leading trust company which manages high-net-worth clients’ assets, told AsianInvestor on condition of anonymity.

Indeed, Chinese fund managers admitted in April that several obstacles could limit the success of FoF mutual fund products. They pointed to the relative dearth of fund types in the country, restrictions on overseas investments, and the difficulty of picking stable core funds that aren’t short-term focused. Added to that is the lack of derivative instruments for effective hedging.

Amac’s Hong said FoFs should play a specific role in helping China’s institutional investors diversify assets and improve average market returns. He added that it was important that asset managers not employ the instruments as simple fund sales tools.

Used as part of a broader asset allocation strategy, FoFs could help improve the investment return of Chinese pension funds. Hong noted that the most important thing was to choose a strategy and be patient.

He noted that the annual performance of an enterprise annuity fund since May 1, 2011 could be relatively appealing even if it employed different levels of risk. Using five different simulation models, (described as conservative, defensive, balanced, active and aggressive), Hong noted that they would have netted the fund respective annualised returns of 6.82%, 6.99%, 7.13%, 7.25%, and 7.33%. 

The point, Hong said, is that it is important for such funds to employ long-term, consistent strategies to gain returns—not focus on short-term trading. 

New pensions committee

Speaking at Amac’s new pension fund committee, NCSSF’s Wang said another important step to grow retirement assets is for China to offer concrete benefits to ‘third pillar’ pension account holders.

The country generally divides its pension system into three pillars. The first is the public pension fund (PPF), which is based on compulsory direct contributions from individuals. The second pillar is formed by the enterprise annuities (EA), a voluntary system of pension contributions by employers. The third pillar is based upon commercial pension insurance.

As of end 2016, China had Rmb7.1 trillion ($1 trillion) in pension assets, including Rmb4.4 trillion in PPF, Rmb1.1 trillion in EA, and Rmb1.6 trillion in the National Social Security Fund (NSSF), said Wang.

Developing the third pillar will be important for China to help meet the retirement needs of all its citizens. Wang suggested that third pillar account holders receive tax benefits and have the freedom to make investments under the account, rather than just to invest in insurance products.

The asset management industry has been involved in investment management for the second pillar (EA), and last year it began to manage assets under PPF too. It now has a big opportunity to help craft the eventual design of the third pillar, said Hu Xiaoyi, head of the China Social Insurance Association under the Ministry of Human Resources and Social Security, at the same meeting.

Wang didn’t say how much of the assets in China’s pension industry are managed by third-party fund managers, but he noted that mutual fund managers manage 60% of the pension fund assets that are mandated to external managers. These mutual fund managers have helped generate respective annualised returns of 9.26% and 7.57% for NSSF and EAs in the past 10 years. 

Amac’s newly established committee is comprised of 22 senior executives from mutual fund managers, private fund managers, securities and insurance asset management companies, as well as the custodian and fund sales departments of banks. 

Additional reporting by Jolie Ho

* The China Securities Regulatory Commission first greenlit fund of funds in September 2016. It approved ChinaAMC, China Southern, CCB Principal, Harvest, HFT and Manulife Teda to launch FoF products in September this year.