China’s fund managers are pondering an investor conundrum. Despite the slump in the country’s stock market – the Shanghai Composite Index is down over 50 per cent on its October 2007 peak – there is little sign of a mass exodus from domestic mutual funds.
According to Z-Ben Advisors, consultants based in Shanghai, while Chinese mutual fund industry assets dropped 20.1 per cent to Rmb2,041bn (£150bn, €189bn, US$298bn) in the second quarter of the year, retail investors held firm, with index and balanced funds retaining the most assets. However, money market funds suffered significant redemptions as investors fled to the safety of bank deposits. Investors also sold out of bond funds, partly to take advantage of new bond fund offerings – an example of the “churning” that is characteristic of the Chinese retail market.
In a report called A Feat of Endurance, Z-Ben says equity 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 on historical trends, once share prices start to move higher, the risk of large-scale redemptions could rise. But the report adds that asset managers could benefit from another idiosyncrasy of the Chinese retail investor – a tendency to eschew funds that are trading well above their par values in favour of funds trading at or near “the magic Rmb 1 level” and rising fast.
Another possible explanation for investor patience in the face of mounting losses, says the report, is a lack of attractive alternatives to domestic fund investment. For instance, funds launched under the Qualified Domestic Institutional Investor (QDII) scheme, which allows Chinese investors to buy foreign assets, currently hold little appeal for those who believe the renminbi is likely to appreciate substantially against most foreign currencies.
An interest rate of around 4 per cent on Chinese bank deposits combined with currency appreciation estimated at 6 per cent a year means fund managers will have to design a QDII product that achieves an annual return of at least 10 per cent, says Z-Ben.
It is further suggested that the continuing willingness of Chinese retail investors to keep their money in mutual funds is evidence they have recognised the “necessity” of professional investment management to meet their savings and retirement needs and are willing to accept even extreme volatility as the price of exposure to equity markets.
This will make encouraging reading for the 30 or so foreign asset managers that have established joint venture fund management operations with local banks and securities houses.
While these managers continue to launch new local equity and fixed income funds (with the latter attracting the most new assets in the second quarter), all eyes are keenly focused on the longer-term potential of the QDII scheme. A sharp pick-up in interest is anticipated once markets stabilise. Only 10 of the 21 fund managers that have licences to issue QDII mutual funds, have so far launched such funds.
Not surprisingly, falling markets have depressed demand for such funds. The May launch of a QDII Hong Kong equity fund by Fortune SGAM Fund Management attracted a mere US$66m. This stands in stark contrast to the $4bn raised by Southern Fund Management last September for a fund sub-advised by BNY Mellon Asset Management.
The launch of QDII mutual funds by domestic and joint venture asset management companies in mainland China is but one avenue of opportunity presented by the scheme. Foreign asset managers based outside China are allowed to provide mutual funds to bank distributors in China for sale under the banks’ QDII licences. They can also pitch for sub-advisory QDII mandates from Chinese insurance companies.
Although local fund managers are currently reluctant to launch offshore funds, Z-Ben advises foreign fund managers to seek out a joint venture or sub-advisory relationship even if it does not bear fruit right away. When conditions change, foreign firms that have partnered with local players will enjoy a competitive advantage.
Bank of New York Mellon Asset Management, which manages assets in excess of US$1,100bn , is waiting for regulatory approval to launch a new joint venture fund management company, following an agreement with Shanghai-based Western Securities last November. The new entity, to be called BNY Mellon Western Fund Management, will manage a range of equity and fixed income funds, which it plans to sell to retail investors through banks, insurance companies and securities houses.
Fortis Investments, the €238bn Belgo-Dutch fund house, went one step further in April when it formed a 50:50 asset management partnership with China’s second-biggest insurer, Ping An. The alliance makes Fortis Investments the preferred provider to Ping An’s distribution network in China and Asia.
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