The following article first appeared in the May 2008 edition of AsianInvestor magazine. Each month we offer online a feature from the magazine. To subscribe, please email us at [email protected]

With a total asset size of Bt1.4 trillion ($44.3 billion), ThailandÆs mutual fund industry is the largest in Southeast Asia. Despite ThailandÆs edge assets-wise over other markets in the region, it will likely be left behind unless it can carve a niche for itself in the same way that Malaysia has positioned itself as a global centre for Islamic capital markets.

ThailandÆs mutual fund assets make up around 41% of Southeast AsiaÆs total assets of $109 billion, based on end-2007 data from Cerulli Associates. Mutual funds make up only one aspect of ThailandÆs asset management industry, which also consists of private and provident funds, which in total amount to Bt2.2 trillion ($70 billion) in assets.

At the moment, Singapore and Malaysia pale in comparison with their share of the regionÆs mutual funds business at 23% and 20%, respectively. Thailand also leads in terms of mutual fund penetration at the rate of 7.6% of household financial assets, much higher than SingaporeÆs 5% and MalaysiaÆs 5.6%.

The biggest stumbling blocks to the growth of ThailandÆs mutual fund industry are its distribution structure, relatively small stock market, and the delays in creating a compulsory pension system for the private sector.

The distribution of mutual funds is dominated by local banks that adhere to a closed architecture; they only distribute funds of their asset management arms. This makes it very difficult for local fund management companies with no banking parents and foreign fund management companies to penetrate the market. It is no wonder that the three largest players in the market are Siam Commercial Bank Asset Management, a subsidiary of Siam Commercial Bank; Kasikorn Asset Management, a subsidiary of Kasikorn Bank Group; and BBL Asset Management Company, a subsidiary of Bangkok Bank.

ING Funds (Thailand), which is ranked fifth in terms of assets, is one fund house that has managed to take a significant market share despite being fully owned by ING Group, which has no branches in the country. The company attributes its successful penetration of the market to its broad range of products numbering around 90 and its strong brand name. Its competitors, however, credit ING FundsÆ success to its strategy of charging lower-than-average fees.

ING Funds and others in a similar position have mainly distributed products through foreign banking channels, namely Citi, Standard Chartered, HSBC, Deutsche Bank and UOB Bank, as well as a direct sales force. The firm hopes to break in the top echelon with a new distribution agreement: in June TMB Bank, with its network of 472 branches, will add ING products to its shelf.

ING Funds managing director Maris Tarab expects the move to double the firmÆs mutual funds business to Bt80 billion ($2.56 billion) by year-end from the current Bt40 billion ($1.3 billion). This arrangement is now possible because ING Group bought a 30% stake in TMB û previously known as the Thai Military Bank û last year during a $1.1 billion recapitalisation exercise, ousting DBS Group as the Thai bankÆs strategic partner. The mutual funds business is only one component of ING FundsÆ overall operations in Thailand, where the firm has around Bt192 billion ($6.14 billion) in assets under management in total from mutual, private, property, and provident funds.

Capital markets: looking for room to manoeuvre

With a market capitalization of around $200 billion compared with around $1.5 trillion in Hong Kong, thereÆs not much room for fund management companies to differentiate equities funds. That market just gets more crowded and liquidity tends to be a major issue.

Since there are fewer opportunities in the Thai stock market, many are turning to bond funds, particularly to short-term fixed-income portfolios. Jamie Poh, a Singapore-based analyst at Cerulli Associates, estimates that around 66% of the countryÆs mutual fund assets are in bond funds, which include short-term fixed income portfolios. Only around 10% are in equities, while the rest are in balanced, property, and money market funds.

Alan Kam, CEO at Manulife Asset Management (Thailand) plans to get around the stock marketÆs liquidity issues by tapping the domestic fixed-income market as well as introducing overseas real estate investment trusts (Reits) from third-party providers and more foreign investment funds (FIFs), which are Thai-domiciled funds that invest in overseas markets.

Two years ago, the Bank of Thailand, the countryÆs central bank, put in place a mutual fund industry quota of $10 billion for overseas investments, which has been used up. The Securities and Exchange Commission (SEC) has been allocating this quota to each individual fund house that applies for a share.

Just last month, the Bank of Thailand approved an additional $12 billion quota for overseas investments, but thatÆs for the country as a whole and includes the share of fund houses, insurance companies, and securities firms. The actual amount allocated for fund houses under the new quota has not been disclosed.

ôThe market here has started to open up considerably,ö says Robert Penaloza, CEO of Aberdeen Asset Management in Thailand, which set up its local operations in 2002. ôThe opportunity for local investors to diversify into a whole range of overseas products is considerable. For us, offering our global menu is a reality now.ö

At the moment, AberdeenÆs offshore offering in Thailand include Asia-Pacific, global equity, European equity, global emerging equities, and global emerging debt funds. With a staff of around 60, the Thai office is AberdeenÆs second largest in Asia next to its headquarters in Singapore.

ManulifeÆs Kam expects his clients û high net worth individuals and institutional investors û to respond well to the Reits and the FIFs that he plans to launch because they are looking for alternative investments. ôI deal with highly sophisticated investors and I need to offer them products that will add value to their portfolios,ö he says.

ING Funds is a market leader in Reits, with around Bt18 billion ($580 million) in assets or a third of the marketÆs Bt58 billion ($1.86 billion) in total. The firm has seven Reits out of the 17 available in the market and this is an area it plans to pursue aggressively. The fund house is working on structuring an infrastructure Reit, which would be the first of its kind in Thailand, with around 600 million euros in underlying assets. It is in the process of conducting due diligence on the assets, and will be seeking SEC approval once the Reit is ready.

ôAn infrastructure Reit would be a good opportunity for retail and institutional investors, both local and overseas, to have access to the growth of the infrastructure industry in Thailand,ö says Maris.

Waiting for pension reform

ThailandÆs mutual fund assets may be high relative to other markets in Southeast Asia, but they are miniscule compared with the countryÆs total bank deposits. A compulsory pension system could hold the key in opening those floodgates.

Having a compulsory pension system will significantly increase provident fund assets as well as encourage more investments in mutual funds, just as it happened in places like Australia, Hong Kong, and Singapore, AberdeenÆs Penaloza says.

As of now, one compulsory pension system is for around 1.2 million civil servants, who contribute 3% of their monthly salary to ThailandÆs Government Pension Fund (GPF), an amount that is matched by their employers. For the private sector, the whole concept is still voluntary. Companies that want to provide for the pension needs of their employees give the mandate to a fund management company, or join other companies to have a pooled vehicle.

GPF secretary general Visit Tantisunthorn, who sits on a committee that is looking into setting up a compulsory pension system, says it is one of the priorities of the current government.

Talk of the creation of a compulsory pension system has been around for at least the past five years, and each time it appeared that it was turning into s real possibility, something got in the way such as the military coup two years ago that put many things on hold. Others, such as ING FundsÆ Maris, are skeptical. ôThere has been study after study. This is something I donÆt expect to happen soon,ö he says.

Under the current voluntary pension system for the private sector, the provident fund business is ôa loss-making business and is not worth pursuing until it becomes mandatoryö, unless a fund house can get a sizeable amount of mandates to keep it going, says ManulifeÆs Kam.

Such obstacles to the growth of ThailandÆs mutual funds industry are the reasons why fund houses arenÆt rushing to set up a presence in that market. Despite the marketÆs relative size, most global fund houses prefer to go after it via Singapore-based feeder funds. The costs of doing business onshore remain too high given the modest opportunities, particularly when resources are being diverted to much bigger markets in North Asia or India. For example, there remains a 49% stakeholder cap for foreign investment into fund houses, although on a case-by-case basis the government is willing to waive this (Aberdeen and Manulife were allowed to enter with 100% ownership).

Even firms with considerable Thai business often remain at arms length. Templeton Asset Management, the Singapore-based Asia arm of Franklin Templeton Investments, has a long history of pursuing onshore business in other markets, but has resisted putting people on the ground in Bangkok.

This despite its institutional marketing activities; the firm recently netted a $100 million global fixed-income mandate from the Social Security Office. Partly this is because demand for institutional investment products remain limited, says Stephen Grundlingh, country head at Templeton in Singapore.

Putting opportunity in perspective

The future is not all bleak for ThailandÆs mutual fund industry, however. The political scene in Thailand has improved significantly in recent months.

Gillian Kwek, a Singapore-based fund manager at Fidelity Investments who manages a $1.1billion Asean fund, sums up the importance politics plays in ThailandÆs future when she punctuates her optimistic view of the economy and capital markets with the caveat ôbarring a fresh coupö.

So far the new, democratically elected government, which has ties to Thaksin Shinawatra, the prime minister ousted by the military coup, has signalled moves to promote savings, investment, and access to capital. ôThis has reassured investors, business and consumers about the countryÆs economic prospects,ö Kwek says.

This is widely held to be a huge improvement on the paralysis under the military junta.

For example, the government has scrapped capital controls imposed by the generals, including a 30% reserve requirement imposed in December 2006. New prime minister Samak SundaravejÆs government has also been responsible for the $12 billion in additional overseas investments quota.

More recently, the Securities and Exchange Commission allowed private funds managed by fund houses in Thailand to invest overseas up to $50 million for institutional investors and up to $5 million for individual investors. CerulliÆs Poh expects this to have a significant impact of the mutual fund business this year onwards because in the past, private funds were not allowed to invest overseas.

One other source of optimism for the mutual fund industry is the creation of the Deposit Insurance Institute Act, which will take effect in August 2008. By removing a blanket guarantee on bank deposits, money is expected to increasingly be taken out of banks and into mutual fund products.

After the Asian financial crisis in 1997, which was triggered by the collapse of the Thai baht, Thailand implemented a blanket guarantee on baht-denominated deposits with local and foreign banks. Under the new Act, the full amount of deposits will be protected in the first year of enforcement, Bt100 million ($3.2 million) in the second year, Bt50 million ($1.60 million) in the third year, Bt10 million ($320,000) in the fourth year, and only Bt1 million ($32,000) from the fifth year onwards.

Amidst all the developments in Thailand, the main challenges fund houses onshore are not about finding new business. Rather it is more the quotidian needs to improve profitability, develop staff skills and expertise, and manage client expectations.

Looking at the market in isolation, there are plenty of routes for business development. But as long as distribution channels remain closed, pensions remain small beer, capital markets remain under-developed and interference with international flows continue, ThailandÆs industry will grow increasingly pokey compared to other markets in the region, not just the big ones on the north, but compared to others in Southeast Asia. This will keep global expertise offshore in Singapore, denying BangkokÆs professionals the experience they badly need.

AsiaÆs dynamic region and a middling market should not be content with a lackadaisical financial industry. Recent measures by ThailandÆs government are welcome, but are missing the sense of urgency that they perhaps deserve.