Foreign Fund Managers See Opportunity in China's New Securities Law

“China’s mutual fund industry is at a turning point,” says Ting Li, State Street Global Advisors’ head of Asia, excluding Japan. And the future is looking brighter because of some imminent liberalization moves, industry executives say.

The Chinese authorities are preparing to implement a revised investment fund law that promises to give fund management companies — both domestic firms and joint ventures with foreign partners — a boost. Effective from June 1, the legislation will relax restrictions on the origination and approval of new funds and allow mutual fund companies to compete for a bigger slice of China’s growing wealth-management market.

For SSGA, the asset management arm of Boston-based State Street Corp., the new regime is an irresistible lure. Last year the company teamed up with Zhongrong International Trust Co., a finance company controlled by Hong Kong–listed Jingwei Textile Machinery Co., to apply to the China Securities Regulatory Commission to form a fund management venture in which SSGA would own 49 percent, the most a foreign investor is allowed. They expect to win approval for the venture later this year. “It’s the right time for us to participate,” Li said.

Sino-foreign fund management joint ventures have weathered China’s equity market woes better than most of the country’s asset managers. Joint venture firms last year managed about 57 percent of China’s mutual fund assets, up from about 14 percent when they first started ten years ago.

China’s first mutual funds launched in the late 1990s, and the industry opened to international participation following China’s entry into the World Trade Organization in 2001. After strong growth in the early years, however, the industry has stalled. China’s 70 mutual fund companies, including 40 joint ventures, managed a total of 2.79 trillion yuan ($450 billion) in assets last year, according to Z-Ben Advisors, a Shanghai-based investment management consultancy. It was the fifth consecutive year that assets under management had fallen below the 2007 peak of 3.28 trillion yuan.

Most Chinese mutual funds are equity-focused, and they have suffered from the poor performance of the country’s stock market. The CSI 300 index of Shanghai and Shenzhen stocks has trended lower for most of the past five years and, at 2,748.03 on February 4, remained 53 percent below its October 2007 peak, notwithstanding a 29 percent jump since late November. The industry, moreover, remains dominated by retail customers, who generally churn funds seeking short-term profits. Sustained inflows of pension money and insurance cash haven’t arrived, explained Terrance Hui, chief executive of Invesco Great Wall Fund Management Co., a joint venture between Great Wall Securities Co. and Atlanta-based Invesco. “There’s a lack of structured institutional investment,” Hui said. More recently, the huge growth of wealth management products — loosely regulated short-term investments packaged by trust companies and distributed by banks — has attracted money that previously might have gone to mutual funds.

China’s new fund law may help to change that. The new rules build on recent regulatory changes that have widened the scope of permissible activities by asset managers, including cross-border investment, using China’s various qualified institutional investor schemes. Fund managers also will have greater latitude to offer direct-investment and private placement products. Moreover, the application period for the introduction of new products will be shortened, and distribution channels using third parties and online channels will be expanded, reducing the current reliance on bank sales networks. The authorities are also injecting some fresh competition by permitting insurance companies and securities brokerages to originate and sell mutual funds.

“This will provide a boost to the industry,” said Howhow Zhang, Z-Ben Advisors’ head of research. “It will give managers more flexibility and room to innovate.” Z-Ben estimates that assets managed by China’s mutual fund companies will grow 30 percent this year, to 3.68 trillion yuan, in part reflecting an anticipated stock market rebound.

Crucially, the new investment fund law may create a level playing field by allowing fund managers greater access to institutional assets — both global cash looking to invest in China’s markets and domestic money seeking opportunities overseas. Already, China’s insurance regulator has indicated it will allow insurance companies to outsource more investment mandates to fund managers.

China’s mutual fund business is changing “to a broader asset management and wealth management business model,” says State Street’s Li. That should create more opportunities for the Sino-foreign joint ventures that can offer best international practice, risk management discipline and product innovation.