Regulation
Provisions enabling the registration of China’s domestic private funds coupled with the Qualified Domestic Limited Partner Programme (QDLP) show considerable promise for the evolution of China’s hedge fund industry, although managers should be equally aware of the issues that need to be addressed, a senior executive at HSBC has said.
It was announced in late February that private fund managers or “sunshine funds” running more than RMB 100 million will be required to register with the Asset Management Association of China, a China Securities Commission sponsored self-regulatory body. “The announcement has given sunshine funds legal recognition in China and means they are now treated as separate entities in the eyes of the regulator,” said Lilian Wong, head of hedge fund services at HSBC in Hong Kong.
According to data from the China Trustee Association, China has a private trust fund, or sunshine fund asset base totalling RMB 138.3 billion, or roughly $22 billion. Sunshine funds are similar to hedge funds although the majority adopt long-only strategies. A few experts even reckon the registration requirements could be afforded to foreign hedge funds as well in time.
Meanwhile, the QDLP, a separate pilot initiative entirely being mooted by the Shanghai Municipal Government Financial Services Office (FSO), will also allow approved foreign hedge funds to raise Renminbi-denominated funds in mainland China, although capital raised must be invested in foreign markets.
“Both initiatives are promising, and I believe the QDLP is a good first step as it means that hedge funds are being openly discussed for the first time in China. However, a lot of issues need to be addressed and there is still uncertainty on how hedge funds will be received by mainland investors. There are also a number of practical considerations that need to be looked at by managers. For example, there are set-up costs to consider and it is essential to have management on the ground and to build up a distribution network. These processes will all take time,” said Wong.
Several large hedge funds have been talking with Chinese regulators about setting up shop in mainland China. The investor base and HNWI base is substantial while the country’s sovereign wealth funds are already active hedge fund investors. “Private banks in China will certainly be one of the investor classes which hedge funds target,” commented Wong. However, she added there was a risk regulators could shelve the initiative if problems arose with the pilot.
Many of the issues stifling China’s hedge fund development are more fundamental, namely limits on what securities hedge funds can short, and capital controls. “Liberalisation of the economy and easing of exchange controls are essential to enable hedge funds to develop in China. There are also limitations on the type of investment instruments available in China, which will constrain managers’ ability to generate alpha,” continued Wong.
Patience, however, could prove to be a virtue for managers willing to exploit China’s hedge fund liberalisation. “Managers which are the first in the door will benefit in the long-term. However, the development of a fully-fledged hedge fund market in China is something that is years away. Nonetheless, I do expect China will be quicker in its development of a hedge fund market than Hong Kong and Singapore as they will learn from those jurisdictions’ experiences” she said.
The third initiative – the Wenzhou Pilot – will allow residents of the affluent city to invest in funds abroad. The high-net worth and ultra-high net worth investor base in APAC surpassed North America in terms of HNWI population to become the largest HNWI region for the first time, according to RBC Wealth Management and Capgemini’s 2012 World Wealth Report. APAC’s HNWI population expanded by 1.6% to 3.37 million in 2011 representing an 11% growth over the last two years, the report added.
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