In a Chinese mutual funds market characterised by a high degree of homogeneity, the chances of making money depend to a large degree on a fund house’s ability to differentiate its offerings, according to Andrew Tong, president of SYWG BNP Paribas Asset Management in Shanghai.
Not an easy task when the securities regulator limits product innovation and at present will allow only equity funds, fixed income funds, money market funds and exchange-traded funds into the market.
“There are about 150 investment funds in the market with not a lot of differentiation,” notes Mr Tong. “We are focusing on equities as this, we believe, is where our strength lies.”
Mr Tong presides over a joint venture fund management operation established in January 2004 by BNP Paribas Asset Management and Shenyin & Wanguo Securities Company. BNP Paribas currently has a shareholding of 33 per cent in the joint venture.
New products
Since inception, three equity funds have been released into the market. The first, a top-down fund investing in Chinese blue-chip A shares launched in March 2004, has a minimum equity holding of 50 per cent. The second launched in October 2004 is an absolute return product using the one year time deposit rate as its benchmark. It has a maximum equity position of 45 per cent. The objective is to generate a fixed return over a one year horizon that betters money market fund rates and the inflation rate.
The third product, designed to invest in small- to mid-cap stocks, was launched in November 2005. It has a minimum equity exposure of 60 per cent and a maximum of 95 per cent. The objective is to buy into those companies which are considered to have significant growth potential over the next five to 10 years.
The blue-chip fund has performed badly since launch, losing 7.5 per cent versus a market loss of 35 per cent year-to-date.
Industry commentators point out that stock-pickers will find more joy in a stock market that has suffered a prolonged slump and Mr Tong admits that his bottom-up mid- to small-cap fund stands a better chance of success.
He maintains: “With the market at a low level, the systematic risks have been largely released. So if you enter now, you should reap a good return over the next one to three years.”
Mr Tong refers to his absolute return strategy as a hedge fund. However, the current lack of a Chinese futures and options market compelled the firm to use a modified version of portfolio insurance techniques developed internally to build the absolute return strategy.
The pace of regulatory change is slow. Mr Tong says the government has been talking about developing an index futures and option market for the last eight years. There is a reason for the delay, he adds. A prerequisite for an index futures market is a representative equity index made up entirely of companies with tradable shares.
The present situation where 70 per cent of the shares of the listed companies on the stock exchange are non tradable dates back 20 years to when the Chinese stock market was formed. Because the companies were government-owned, only a certain percentage of their share capital could be traded by investors. The rest of the share capital was held by the government in order, says Mr Tong, to give investors the sense that the companies were still state-owned.
He adds: “While the government is working to clean up the situation, people have always been concerned that if it allowed this 70 per cent of non-tradable shares to be tradable in the market, all of a sudden you would have a huge supply which the market might not be able to deal with.”
There are also plans to develop the government bond market, to provide for longer-dated issues and asset-backed securities.
“The bond market is quite primitive at the moment, focusing on fairly short duration government bond funds. Any duration in excess of seven years would be quite illiquid and there is no ‘U’ curve of the Chinese bond market,” says Mr Tong.
Next year, SYWG BNP Paribas will consider launching short-term fixed income funds, in addition to money market funds and an exchange-traded fund.
The firm is also considering launching a bond fund or exchange-rate driven product designed to take advantage of the impending Qualified Domestic Institutional Investor Scheme (QDII) which will allow Chinese-based institutions to invest in external assets.
Foreign markets
He says: “At the end of the day, our competitive strength will emerge when the government allows us to invest in foreign markets under QDII. And we are preparing to do this in the next two to three years. The QDII will create two categories of fund manager. One group will be ready to invest outside China, while the domestic players will not have this capability in the medium term.”
First of all, SYWG BNP Paribas’s strategy is to build a product line that allows people to invest in all market conditions.
“We will have products to suit both bear and bull markets and sufficient equity products for the bull market. For sideways markets, we have absolute return products,” explains Mr Tong.
SYWG BNP Paribas has RMB5.6bn (€595m) of assets under management, 35 per cent of which is institutional money. That said, 99 of the firm’s clients are currently retail. Mr Tong would like to change that client mix to 70 per cent retail and 30 per cent institutional; this would significantly boost assets under management and make the client mix more manageable. The firm has plans to attract more institutional clients by focusing its efforts on local corporations through the strengthening of its direct sales capability.
With the exception of money market funds, institutional and retail investors are charged the same level of fees. Although Mr Tong says that institutional investors are not concerned as long as the funds perform well, he adds that larger investors have started asking the fund manager to share the annual management fee. “Where they pay 1.5 per cent per annum, they are now asking for a rebate of 30 basis points,” he notes.
A future avenue of opportunity for SYWG BNP Paribas is China’s new corporate pension schemes or enterprise annuities. To date, around 60 licences have been awarded to investment houses to manage these new voluntary schemes.
An application for a licence was turned down in 2005 because the firm failed to meet the requirement of having a company net asset value of at least RMB100m. But BNP Paribas is preparing to inject new capital into the business after which a fresh application will be made for an enterprise annuities management licence.
The Qualified Foreign Institutional Investor (QFII) programme offers an immediate opportunity for BNP Paribas to grow assets under management. Under the QFII programme, foreign institutions can invest in renminbi-denominated equities and bonds. The fund manager must first apply for a licence and investment quota to market a fund to overseas investors.
BNP Paribas has secured a licence to enter into the A share market, but has not been actively promoting its products to investors outside China. This it will start doing in 2006, according to Mr Tong.
In addition to differentiating their products, asset managers must strive to achieve consistently good investment performance if they hope to be successful with subsequent fund launches.
Performance pressure
“The market is very performance-driven,” says Mr Tong. ‘It is hard to blame the investors because they are not sophisticated. You have to make money for them. If you lose money for whatever reason, people do not look at how illiquid the market is; they do not consider risk or compare performance with other fund managers. They just look at the absolute performance of your fund. And to add to the pressure, when investors are happy they will redeem.”
Despite the challenges his joint venture faces, Mr Tong is confident of capitalising on the opportunities ahead.
“I am not concerned about whether there is sufficient liquidity in China which is an emerging market. We are talking about over RMB13,000bn of private savings in the banking system. So when you consider the social security funds and the insurance company funds and the QFII money coming in, this market is not short of liquidity. The market is sufficiently large for the existing players.
“But having the liquidity does not necessarily mean you can do the business. It depends on whether the market is mature enough to move some of these bank savings into the capital markets.”
