Mutual recognition scheme offers asset managers long-term opportunities in China
The mutual recognition scheme between mainland China and Hong Kong will provide traditional asset managers with long-term opportunities in terms of accessing Chinese capital although it is still unclear if the liberalising measures will be extended to hedge funds anytime soon.
The initiative has been welcomed although there are a number of practical challenges and uncertainties which could stymie asset managers’ plans in China. “There is still limited clarity in the public domain on the precise nature of the rules and how it will work. In theory, the rules will permit Hong Kong domiciled managers to tap both institutional, and retail and high-net worth (HNWI) capital,” said Adrian Harrison, director for sales and marketing for Asia-Pacific at HSBC Prime Services in Hong Kong.
It is likely only plain vanilla products will be permitted under the scheme. “I doubt highly leveraged investment vehicles or hedge fund managers will be allowed to take advantage of the mutual recognition scheme at least in its early stages. I suspect it will be the big blue-chip traditional asset management firms that will be approved first,” commented Harrison.
The rules would also enable foreign asset managers domiciled in Hong Kong to sell to mainland investors without having to partner with a Chinese firm or apply for a license, something which has frustrated asset managers. Fund managers are generally required to partner with a domestic asset manager, securities company or bank if they want to distribute their products. These institutions will charge commissions, which will eat into the management fee, or even the performance fee.
China is gradually opening up to foreign asset managers including hedge funds. The Qualified Domestic Limited Partner (QDLP) Programme permits a limited number of foreign hedge funds to tap the wealthy private investor community in Shanghai for capital. However, this is subject to onerous restrictions.
Only six hedge funds – Canyon Partners, Citadel, Man Group, Oaktree, Winton Capital and Och Ziff – have received approval from the Shanghai regulator to raise capital on the mainland. Furthermore, the regulator has limited all of these hedge funds to an overall quota of $300 million to manage, which will be split six ways. Reports suggest only Citadel and Canyon Partners have raised decent sums of capital so far. Hedge funds have found there to be distribution challenges in China as their domestic asset manager, securities companies or banking partners have little commercial incentive to work with alternatives managers as the capital hedge funds are allowed to raise is so limited.
Nonetheless, the Shanghai regulator is said to be in talks with other hedge funds hoping to take advantage of QDLP. Experts predict the first movers into China will reap huge rewards although there is always a risk Beijing could scrap the experiment arbitrarily.
China is not averse to hedge fund investing. Its sovereign wealth funds are known to dabble in hedge funds although many other allocators, such as insurers, are generally cut off or prohibited from investing in the asset class. Hedge funds are not included in the list of Qualified Domestic Institutional Investor (QDII) list of approved investments, although a study by Barclays Prime Services, indicated the rules could be changed as China continues to liberalise its capital markets.