When Alexa Lam unveiled her vision for a landmark mutual recognition funds initiative between Hong Kong and mainland China, she billed it as “the next breakthrough in our asset management and offshore RMB business”.
Evidently this scheme has revolutionary potential. Being able to access the mainland market is just about what every fund manager wants.
“At a high level this is a potentially transformative, game-changing regulatory development,” says Effie Vasilopoulos, head of the investment funds practice for Asia at Sidley Austin in Hong Kong.
But as promising as the proposal is, it is at a very formative stage and really raises more questions than answers. “There is precious little detail to give you a sense for understanding how this is supposed to work mechanically,” adds Vasilopoulos.
With that in mind, AsianInvestor raises 10 issues that industry sources say need to be clarified and addressed if businesses on both sides of the border are to prepare properly. We would welcome your comments and feedback, either here or on our LinkedIn page. Let the debate begin.
Can we get some idea of the projected timeframe for launch?
The Qualified Domestic Limited Partner (QDLP) scheme for foreign hedge funds to register and raise RMB assets in Shanghai has been primed for rollout for over a year. AsianInvestor wrote as much last March. But we’re still waiting. Sources voice hope that this mutual recognition platform will be established within 12 months. But if QDLP is a template, that appears a distant prospect.
Will there be sufficient demand for this scheme to meet expectations?
This is the fundamental question underlying this project. Primarily this appears a retail-driven initiative (that’s where the bulk of revenues would come from). But Chinese investors (as elsewhere) have a strong home bias, as evidenced by the disappointing qualified domestic institutional investor (QDII) programme. Will products in this scheme really be able to compete amid a stock market rally? If buyers are short-term oriented, fund flows would clearly be volatile. In fact, there is the prospect that this scheme could be the catalyst that leads to a shutdown of QDII.
Will Chinese authorities be able to improve onshore distribution?
Banks dominate distribution, especially in China. There’s a worry that the likes of ICBC and CCB – with the largest networks – will simply charge extortionate fees. Conversely, it has been suggested that Hong Kong authorised funds that have reached critical mass won’t mind, on the grounds that every dollar they make is profit. It would appear stronger regulation will be required to create a more level playing field. Also, will non-mainland banks be allowed to sell local funds in China?
How will streamlined product registration work?
Alexa Lam spoke of a streamlined registration process that would save funds costs and time. Does this mean that authorised funds will be fast-tracked on both sides over other products? If so, that would give them a huge advantage, given that time-to-market is crucial. What will be the size and age restrictions imposed on fund manufacturers and products, or will unrestricted access be allowed?
Can you outline some procedural arrangements for set-up?
It is unclear whether fund firms on either side of the fence will need to have an onshore management presence, or perhaps a local representative officer. Further, will firms need to appoint an onshore fund administrator and custodian? Onshore infrastructure will clearly need to be established to deal with post-sale client servicing for “offshore” clients.
Will authorised products be eligible for inclusion in the MPF system?
The opportunity to gain access to Mandatory Provident Fund account holders would be a real opportunity for Chinese asset managers. So will they and other authorised funds in Hong Kong be eligible, and if so, will they be required to meet more stringent guidelines? While this is unlikely to happen at the outset, is it a possibility further down the line?
What type of products will actually be allowed into this scheme?
There are no details on the type of product that will be permitted. Will fund structures be restricted or unrestricted? Will, for example, exchange-traded funds be included in the scheme? This could be very positive for Hong Kong's ETF market.
How will HK-authorised firms be able to differentiate their products?
While this clearly is a subsidiary question to the fundamental one on outright demand, the fact is that retail products in mainland China are fairly regimented and limited in scope. Without some liberalisation in product design, the differentiation will likely come down to branding or internal risk controls. Will mainland China allow more sophisticated products to be sold there?
What will the currency arrangements be?
There are still capital account restrictions in China and the currency is not fully convertible. Will this scheme support a range of currency classes for these fund units? There is a vast quantity of US dollar wealth in China, so will USD-denominated funds be admitted for sale? Will it mean that all Hong Kong funds, whether domiciled in the city or not, could have RMB units or share classes?
What kind of investment will fund firms need to make to participate?
This is a key consideration. The lack of detail on the proposed scheme so far means fund houses are largely in the dark over what sort of financial commitment they will need to make. This is important when it comes to such things as the branding needed to compete in each other’s market.