Asset management firms have also set up their own branches and representative offices in centres such as Hong Kong, Seoul, Singapore, Sydney and Tokyo in order to target institutional investors such as banks, insurance companies and pension schemes.
But if the more mature institutional markets of Australia, Hong Kong, Taiwan and Japan offer the best business opportunities in the short term, particularly for established players, China, for its huge longer-term potential, is the hot investment story. Despite the impact of falling markets on fund performance and flows, optimism abounds among the nearly 30 foreign asset managers which have established joint venture fund management operations with local partners to grab a slice of a Rmb2610bn (€241bn) mutual fund market.
All eyes are focused squarely on a scheme which allows Chinese investors to buy foreign assets. Although almost moribund at present in the retail market, asset managers anticipate a sharp pick-up in interest once markets stabilise.
But one Hong Kong-based consultant contends that the so-called Qualified Domestic Institutional Investor (QDII) scheme is “overblown” and that when the local stock market was rising, Chinese retail investors showed little interest in investing abroad.
Simon Gleave, a partner at KPMG, says: “How great the demand for QDII will be is a big question. Certainly in the longer-term, following the development of pension funds and insurance funds, such institutional investors will look to diversify their portfolios internationally but Chinese retail investors will not look to do so.”
Falling markets have driven down not only the performance of the first four QDII mutual funds launched by asset managers – average losses were 20 per cent in the first quarter - but depressed demand for subsequent QDII products. The ICBI Credit Suisse China Global Opportunity Fund raised only Rmb 3.15 bn ($450m, €293m) when it launched in February. And Fortune SGAM Fund Management’s new QDII fund to invest in Hong Kong equities, fared even worse, attracting only $66m (€42.6). This stands in stark contrast to the $4bn raised by Southern Fund Management last September for a QDII fund sub-advised by BNY Mellon. Deputy CEO of Fortune SGAM, Denis Lefranc was not exactly expecting a bonanza in what he called “terrible market conditions” but he hopes to build a track record with the fund with a view to relaunching it later if and when markets have rebounded.
Pummelled by turbulent markets, QDII fund managers will struggle to overcome the performance hurdle presented by an interest rate of 4 per cent on Chinese bank deposits combined with the expected further 8 per cent appreciation in the value of renminbi this year. So in order to attract and retain assets, fund managers will have to design a QDII product which achieves a return of least 12 per cent, say fund managers in China.
Mr Lefranc says QDII players are thinking of launching active commodity funds because they believe that at this time, such assets can generate the desired performance. In March, Fortune SGAM, which manages $10bn of assets, won a segregated account licence with which it plans to develop a sizeable institutional business in China. “This segregated account market,” he notes, “is completely new and today players are still in the process of setting up operations, signing legal contracts and training staff. Currently we are launching mutual funds but we also want to provide tailor-made solutions to institutional investors.”
Fortune SGAM has been managing concentrated domestic equity (A-share) portfolios for small and medium-sized Chinese insurance companies on a sub-advisory basis for one year and will now look to convert these sub-advisory agreements into segregated accounts.
Mr Lefranc says: “We strongly believe there is a trend towards international investing. Institutional investors are going to want more customised portfolios, today in local markets but in future why not try to cross-fertilise the QDII licence and tailor-make a mandate which could be invested also in overseas markets? With both a segregated account licence and a QDII licence, it should be possible, but this would be subject to the approval of the CSRC [China Securities Regulatory Commission]. We could manage segregated accounts for Chinese insurance companies, trust companies, securities houses or large-scale corporates. Chinese corporates are different from Western corporates in that some of them want equity exposure.”
Avenues of opportunity
The launch of QDII mutual funds by domestic and joint venture asset management companies based in mainland China is but one avenue of opportunity presented by the scheme.
Foreign investment houses based outside of China are allowed to provide mutual funds to bank distributors in China for sale under their QDII licence. They can also pitch for sub-advisory QDII mandates from Chinese insurance companies. Mr Lefranc says that Societe Generale Asset Management is targeting the sub-advisory market with specialist QDII products.
Schroders started selling a number of its Hong Kong-registered mutual funds through Citibank and HSBC in China in late 2007 and is in discussions with other Chinese banks holding QDII licences.
Lester Gray, CEO, Asia-Pacific, at Schroders in Singapore, which manages a total of $70bn of assets for institutional and retail investors in the region, says the CSRC is progressively opening up to new fund ranges that can be sold under QDII and now has approved both UK domiciled and Singapore-registered funds for distribution through local banks.
The firm is also working with insurance companies in China which are seeking to have international assets managed via segregated sub-advisory mandates.
Schroders runs a fund management operation in China in partnership with Bank of Communications. The joint venture, which manages RMB55bn (€5.1bn) of assets, will launch a QDII product in the second half of this year. According to David Lui, CEO of Bank of Communications Schroder Fund Management, the fund will invest partly in Hong Kong blue chips and red chip stocks, but focus mainly on the European, US and Asian stock markets.
Sovereign wealth funds
If China’s QDII scheme is one hot topic on every Asian fund manager’s lips, another is sovereign wealth funds in the region. The main focus of attention is China Investment Corporation (CIC), a sovereign wealth fund set up in November 2007 with $200bn of reserves. CIC is on the verge of announcing the winners of a tendering process for four active equity mandates – global equity, MSCI Eafe, emerging market and Asia ex Japan – and two active fixed income mandates – global bonds and emerging market debt.
Over 200 foreign fund managers are believed to have responded to requests for proposals. Peter Alexander, principal of Shanghai-based investment consultants, Z-Ben Advisors, estimates that three to four managers will be appointed for each mandate with up to $10bn being awarded in total, adding that CIC will choose those managers “deemed biggest and best in class”.
Z-Ben Advisors forecasts a rise in CIC’s assets under management from $200bn today to $625bn by end-2010, with more than 70 per cent of those new funds expected to be released to foreign third-party managers. Furthermore, the combined financial might of China’s three sovereign wealth funds - CIC, National Council for Social Security Fund (NCSSF) and China-Africa Development Fund – is predicted to lead to the outsourcing of more than $320bn in new assets to foreign third-party investment managers by the end of the decade.
Twelve foreign asset managers have been awarded a total of $1bn in NCSSF investment mandates to date.
“All international asset managers are looking at the like of the CIC and the KIC [Korea Investment Corporation],” says Schroders Lester Gray, adding it is rumoured that the NCSSF will be putting new mandates up for tender soon. He notes that Singapore’s Government Investment Corporation, established 27 years ago and worth in excess of $100bn is viewed as an investment role model by the CIC and other emerging sovereign wealth funds.
“The GIC is probably one of the most sophisticated sovereign wealth funds in the world. It has a large professional staff and has been investing in private equity, real estate and hedge funds for many years.”
China, for all its fund management opportunities and growth potential, is still a relatively small part of Schroders’ business in the Asia-Pacific. The more developed institutional and retail markets of Australia, Japan, Korea, Hong Kong and Singapore will be, says Mr Gray, key contributors to Schroders’ business growth over the next 18 months. Large Australian investors, he notes, are moving down the path of alpha-beta separation and gaining significant exposure to alternative asset classes, whereas five years ago, the bulk of the demand was for Australian equity and fixed income and global equity and fixed income.
In the wider Asia-Pacific region, corporate pension funds which traditionally favoured balanced mandates are now graduating towards a more diversified multi-asset investment style incorporating commodities, real estate and hedge funds.
Schroders also has a growing number of sub-advisory relationships with fund managers in the region which are yielding emerging market equity mandates.
Local currency bonds
One European-based investment house that is striving to make its mark in the region is Pictet Asset Management. Amy Cho, MD and head of business development, is targeting institutions in China, Taiwan, Hong Kong, Korea, Singapore and Australia such as multi-billion dollar public pension funds, central banks reserves and insurance companies.
She says there is a growing number of requests from these institutional investors for dollar-denominated emerging market fixed income and hopes that this will lead eventually to demand for local currency bonds.
“We are quite hopeful of seeing demand for local currency fixed income because research requests are coming in to us from the investment consultants which is a positive sign. In the absence of any client interest, the consultants would not be doing the research, so I’m sure they are also anticipating a pipeline of requests for local currency fixed income.”
Pictet is also promoting its range of global theme funds, including biotech, water, generics, security, clean energy and premium brands, to insurance companies and public pension funds, particularly in Korea and Taiwan. While theme funds are a relatively short-established asset class, she is hopeful of convincing these institutions to consider such funds for opportunistic investments.
Ms Cho also points to increasing interest in, but as yet little demand for multi-asset total return mandates. This interest is being driven by market volatility and the need for pension funds to match their long-term liabilities. “The GSIS [Government Service Insurance System] in the Philippines has already appointed two absolute return managers and demand is also coming from the insurance companies which have a strong interest in longer-term liability management. Also, the Taiwanese PSPF [Public Service Pension Fund] said it is considering total return mandates as well as specialist mandates.”
A WAY TO GAIN EXPERIENCE
China’s Qualified Domestic Institutional Investor (QDII) scheme is viewed as a mechanism for gaining knowledge and experience by the local banks, securities houses and asset managers which have formed joint venture investment management operations with foreign fund groups. Speaking at the recent Fund Forum Asia conference in Hong Kong, Evan Hale, MD Hong Kong, South Korea, Singapore and mainland China at Fidelity, warned delegates that local partners hoped to use the expertise gained to become serious QDII competitors in the long term. “The CSRC [China Securities Regulatory Commission] is clear about this. International fund managers must take it on board and if that is not acceptable go home, despite the huge opportunity you have [in China].”
Bradley Okita, managing director, Asia, Lehman Brothers Asset Management, which launched a pilot QDII fund in 2006 in conjunction with Hu’an Fund Management, commented: “Every fund manager in China wants to be a global player and that makes perfect sense. That’s a challenge because they are our partners as well. You’ve got to pick those partners [carefully].”
In order to achieve lasting success in the QDII market, David Lui, CEO Bank of Communications Schroder Fund Management said fund managers must encourage investors to think about the longer-term diversification benefits of international investing.
“Retail investors are not able to identify the changing trends early enough and tend to invest at a later stage. Offering them balanced funds which target an annual return of 10 per cent or more over the longer term will be the way to go.”
Agreeing that investors needed longer-term investment products, David Peng, CEO of Blackrock in Beijing, claimed there were “too many volatile hot products with bells and whistles” geared towards what investors wanted rather than what they needed going forward, particularly with an ageing population.
But Mr Okita replied: “Being a retail product, whether we like it or not, you need to offer sexy, thematic funds and enough of them to sell in any type of market.”
THE CALM BEFORE THE STORM
Despite the slump in the Shanghai stock market – the Shanghai Composite index which tracks the renminbi-dominated A-share market is down over 50 per cent on its October peak – fund managers in China ended the first quarter of 2008 with net new inflows of 3 per cent.
According to a report entitled ‘Hanging Tough’ by consultants, Z-Ben Advisors, investors are holding firm with mutual funds suffering few redemptions over the period.
However, with share prices falling throughout the first quarter and so much money invested in equity mutual funds, industry assets under management finished the period at Rmb2610bn (€241bn), down just over 20 per cent from last years record highs.
Moreover, Z-Ben believes that investors are simply biding their time, waiting for markets to rise back to the level at which they entered before cashing out of their mutual fund investments.
Based upon historical trends, says Z-Ben, redemptions should remain muted as long as share prices remain under pressure. Once share prices start to move higher, the risk of redemptions should rise.
The report also warns that investors will abandon their current managers as soon as they can without incurring a loss.
“This then means that fund managers should be redoubling their efforts today – such as bulking up on customer service – to best retain assets and the loyalty of their client base.”
Z-Ben Advisors also states that the massive cash reserves held by fund managers has served to protect these managers from the worst of the market’s falls.
With equity mutual funds sitting on cash reserves totaling nearly Rmb350bn – an estimated 13 per cent average allocation, this liquidity could be used to fuel a sudden and sharp rally sparked by a possible regulatory move such as a green light from the State Administration of Foreign Exchange to increase the quota under the Qualified Foreign Institutional Investor scheme.
