In mid-January, nearly two weeks into the subscription period for its foreign-focused equity fund, ICBC-Credit Suisse still hadn’t sold out. The performance looked especially poor when set against those of the first four funds released under China’s Qualified Domestic Institutional Investor (QDII) scheme.
Launched between mid-September and mid-October, these funds filled their US$4 billion subscription quotas within a few hours. ICBC-Credit Suisse had until February 3 to charm US$3 billion from investors and appeared to be struggling.
“The sentiment toward QDII has changed dramatically in recent months because of the decline in the global stock markets,” said Leo Lei, QDII fund manager at Fortune SGAM. The firm’s QDII product has received regulatory approval but its launch date has yet to be decided.
“It will be much more difficult to launch these funds than it was a few months ago,” Lei warned.
Timing is everything
In many ways, the first four funds were victims of circumstance. All current QDII funds have a strong Hong Kong bias – JPMorgan expects US$90 billion to leave China by the end of 2008 via fund managers, insurance companies, banks and securities firms, with at least a third of the money going into Hong Kong stocks – and they launched as the Hang Seng Index was on its way to 30,000 points. It ended the year below 28,000.
Three of the four funds finished 2007 down by more than 10%, while the remaining one, China Southern’s Global Balanced Fund, posted a 6.30% loss. As of mid-January, the funds had yet to come under strong selling pressure – in fact two of them had recorded net inflows – but this is expected to come.
“People aren’t leaving because they have lost money on the funds,” said Zhou Liang, head of China research for fund intelligence agency Lipper. “But they will start selling once the funds’ net asset value (NAV) per share passes RMB1.0 [the price at which shares were sold].”
It is also worth noting that when the four QDII funds were launched, the China Securities Regulatory Commission had placed an embargo on new equity funds in the domestic market.
For investors, QDII was the only fresh dish on the table – and new funds tend to be cheaper than established products where the NAV has had time to grow. As a result, they flooded in with seemingly little thought to the diversified investment risk that QDII funds offer or the fact that the returns may not match up to those in the domestic market.
“Our Asia Pacific Advantage Fund has about 2 million clients and some of them, maybe more than half, have no idea about QDII,” said Peter Zhu, head of marketing at China International Fund Management. “They just bought in because it was cheap and, at the time of launch, no other new funds were available.”
However, the program does serve a valid macroeconomic purpose: channeling excess liquidity out of the country, counterbalancing the foreign money pouring into China as export revenues and easing pressure on the yuan to appreciate.
For this reason, QDII funds are likely to continue to receive strong regulatory backing. In December, firms involved in the scheme were told that they could the use the money to make domestic as well as overseas investments. It is seen as a means of ensuring that the funds can benefit from the much anticipated return to form of the domestic market and thereby retain investor interest.
“It supports the argument that the government will do anything to support the QDII program,” said Peter Alexander, principal of fund management consultancy Z-Ben Advisors.
The consultancy believes the 12 fund management companies that have received approval to participate in QDII will all complete their fundraising processes in the first half of 2008.
As the supply of funds increases, the products on offer are likely to become more diverse, albeit slowly.
So far the QDII funds have more or less opted for one of three portfolios: overseas-listed Chinese companies (Harvest China Overseas Equity Fund); Asia ex Japan (China International); or global markets with a strong focus on Hong Kong (China Southern and China AMC Global Enhanced Equity Fund).
Fortune SGAM is going for the Harvest model while a member of E-Fund’s QDII team said it would take the China International route. But China International itself, with one QDII fund already in play, is looking for a more creative second offering. Zhu talked of high risk and high return assets in emerging markets.
It is unclear what impact these changing strategies will have on the foreign advisors recruited to guide China’s fund management companies in their overseas investments. The joint venture firms should find the process relatively trouble-free as the investor-advisor relationship comes readymade. As a 49% stakeholder in China International, there was little doubt that JPMorgan Asset Management would serve as QDII guru.
However, this may not ring true in every case. According to Lei, Société Générale Asset Management’s status as joint venture partner makes it the natural choice for QDII advisor on Fortune SGAM’s first fund but later on it “may choose somebody else instead.”
“Overseas markets are quite different to China’s so we pay more respect to the advisors, at least in the first stage,” he added. “But the bottom line is the fund’s decisions are made in Shanghai.”
As purely domestic companies, China Southern and China AMC brought in external advisors from the US – Mellon Financial and T. Rowe Price, respectively. Foreign players are said to be lobbying to perform similar roles for insurers, securities firms, banks and other fund managers. Alexander of Z-Ben Advisors believes all this attention is somewhat unhealthy.
“It’s reasonable to conclude that when these products started the foreign advisors were not playing as big a role as they thought they would,” he said.
“If China AMC is looking to become a global player, it would follow T. Rowe Price for the next two years. But unfortunately there is a degree of arrogance and this might be restricting growth.”
The waiting game
Alexander says aspiring foreign advisors would be well advised to visit the mid-tier fund firms that are still below the competition’s radar. But in this still evolving industry even those attached to the biggest funds can make a go of it – provided they are willing to be patient.
“The foreign advisors just need to wait for the fund managers to come around,” Alexander said. “We look at the QDII funds as the Holy Grail for our clients. At some point, the Chinese stock market is not going to go up by 40% and here is this platform that allows portfolio outflows.
“Eventually we are going to see billions if not trillions flowing into the global markets.”
Skills shortage: Fighting for fund managers
In 2004, there was a total of US$45.6 billion in the hands of China’s fund managers. Come the end of last year, this figure had risen to around US$450 billion, with assets under management growing 282% in 2007 alone. This has put companies under intense pressure to find people who can manage the money.
“It’s a very young industry and the massive growth means that all of the firms are are looking for talent,” said Ed Legzdins, CEO of Bank of Montreal Retail Investments, which has a 28% stake in Fullgoal Asset Management. “There are just not enough people and so the salaries and compensation are rising dramatically.”
According to state media, in the first quarter of 2007, some 72 fund managers switched jobs compared to 130 in the whole of the previous year. It is seen as inevitable that the best performing fund managers from 2007 will be poached.
In a PricewaterhouseCoopers survey of executives from foreign fund management companies operating in China, about half the respondents reported staff turnover levels of 15-30%. The total number of employees retained by the 19 companies interviewed was tipped to rise from the current level of 1,850 to more than 3,300 by 2010.
“It’s not just the other fund houses that we are competing with for staff but also banks, brokerages and insurance companies,” said Peter Zhu, head of marketing at China International Fund Management.
The company expects staff numbers to reach 250 this year, up from 180 at the end of 2007. It has launched graduate trainee programs aimed at recruiting young people who can be brought up through the ranks. Zhu added that domestic salaries have risen so high they compare favorably with the pay grades in more developed markets like Taiwan, making it easier to recruit experienced staff from these places.
However, money is not everything. Peter Alexander, principal of fund management consultancy Z-Ben Advisors, believes staff retention is as much about capturing hearts as it is filling wallets. He advocates a strong corporate culture with career development strategies and opportunities for staff to travel overseas for training.
“Staff retention is a long term strategy – you have to start when people are research analysts and lay out what you have planned for each one of them,” Alexander said. “At present it is an area that the firms are not really focusing on.”