Some Chinese fund management houses have been forced to suspend management fees because of a legacy clause found in fund contracts in China. The clause requires managers to suspend fee collection once fund performance falls below an artificial value. Given the recent performance of ChinaÆs A-share market, up to a dozen fund managers are expected to have been hit.

According to Michael McCormack, executive director at Shanghai research house Z-Ben Advisors, the clauseÆs history dates back to the industryÆs closed-end era before 2002û2003.

ôTo think back before 2002û2003, when getting a license for a fund was an extremely intricate procedure, you had to have thousands and thousands of safeguards to make it look safe,ö he says.

Funds run by the 'old 10', China's original 10 fund management companies whose founding dates back to 1998-99, are said to be at risk of containing such elements in the fund contract. For example, a call to Bosera Fund Management's customer service centre confirmed it had frozen management fees on its Bosera Value & Growth Fund since early June.

Managers originally incorporated the clause in closed-end fund contracts to help ease product approvals with the industry regulator. ôItÆs a pro-consumer sort of language and made it much more likely to get approved,ö McCormack explains.

Typically, managers would use a formula that incorporates the history of a fundÆs net asset value, its returns over the past 180-day period and a deflator of about 40% to arrive at the artificial NAV. Beyond this, no fees shall be charged. Over the years, the clause has spread into open-ended funds and other fund houses as it has become standard market practice.

Instead of causing fund managers to lose money, it could in fact be saving business. ôA clause like that is actually a useful tool to have, particularly for marketing purposes,ö McCormack says, noting that it can help managers to retain clients that are thinking about dumping funds without having to resort to a price war or to splitting a fundÆs shares to reduce its NAV, two practices discouraged by the China Securities Regulatory Commission.