June 2018

HONG KONG ROUNDTABLE: a long-term project

Our panel discussed robo-advisers, ETF Connect, and why the mutual recognition of funds (MRF) scheme will take time to develop. Chaired by George Mitton in Hong Kong. Hong_Kong_roundtable_June_2018.jpg Stewart Aldcroft (senior adviser, investor services, Asia Pacific, Citi)
André Durand (managing director, Societe Generale Securities Services, Hong Kong)
Peng Fei (chief investment officer, Wanwei Fund)
Eleanor Wan (chief executive, BEA Union Investment) Funds Global Asia – What is your outlook for the region’s equity and/or bond markets in the year ahead? Eleanor Wan, BEA Union Investment – The biggest challenge for the market now is the potential trade war between the US and China. Another challenge is Europe, where the future is unclear. Originally, everyone was predicting a European recovery, but now the situation in Italy and Spain is rather unclear, and Brexit is still ahead of us. For the US, though the economic data is strong, the challenge for the economy is the political situation where they have an unpredictable leader. Back in Asia, the future is comparatively clearer with strong growth numbers. China is leading the development, opening up the capital market and welcoming more investment. Stewart Aldcroft, Citi – I’m not too worried about a trade war because I think that a lot of what we hear in the news is alarmist. I’m hopeful that some of the advisers to Mr Trump will have a few words in his ear to scale back. With regard to the outlook, markets have been flat or even down this year so far, and part of that is this uncertainty, plus Europe is looking pretty poor. As mentioned, Italy and Spain both have changes of government on the same week, and both of the new governments are more negative towards the euro experiment than positive. In contrast, Asia is relatively cheap compared to many other markets. André Durand, SGSS – When I look at Asia as a region itself, I am not very optimistic; but if I look at the region in the context of the global environment, I become optimistic because I don’t see anywhere else where there is such a good chance for markets to keep on delivering growth. The risks in the US and in Europe are clearly much higher. Peng Fei, Wanwei Fund – The Chinese A-share market is getting to the bottom from my point of view. If we look at the stocks, not the large blue-chip stocks but the small-cap ones, they had very poor performance, including last year, and some are even back to levels seen three years ago during the turmoil in China. But when you look at the valuation of those stocks, they are very attractive. My second reason for supporting this market is because it is different from other emerging markets. The US is hiking interest rates, so the money flow is going back to the US, and I believe it will trigger some of the weaker emerging markets. But in China, the government have already started tightening liquidity, trying to deleverage across different industries. There is a new growth engine in China. The old growth engine is state-driven investments, infrastructure investments, real estate; now we’re talking about technology. I am very excited. Funds Global Asia – What are your views about the mutual recognition of funds (MRF) programme between Hong Kong and mainland China? Wan – Two of our funds have just been approved, one is in distribution already and the other is still testing on the system. One of the funds was approved just before we closed year-end 2017 after waiting for two-and-a-half years. For me, MRF is a long-term business opportunity. Since it is a new system, everyone is learning lessons, including the lawyers. MRF has happened at a time when there were a lot of changes in China in terms of the regulatory environment. There were times that we didn’t even know who was in charge of getting this through. We checked with the SFC [Securities and Futures Commission] in Hong Kong and they confirmed that the programme was still on, but that they needed some time to work. Nevertheless, we’ve been patient. There has been some good news about MRF. Now, the pension system can invest into MRF funds. That’s why I’m more optimistic on the long term. Yes, in the last two years when there were only four funds being distributed in China, two funds kept the bulk of the business. But that will change. The toughest part is all the operational details. Even when you get the approval signal, you need to get the trading system to work. There is lots of coordination between different parties, including the central clearing system, and you need to work with their schedule. A lot of it is quite procedural and administrative. Aldcroft – Eleanor’s right, it’s a long-term project. The good news is that we’ve seen a small degree of relaxation from China. This approval to enable the mainland pension schemes to invest into MRF funds is an enormous opportunity. Clearly, we need a lot more products. I’ve spoken to all but one of the different managers who have products in the MRF. The one consistent statement is that they want more competition, because competition would help to educate the market. The second most common comment is how important it is to get the right distribution partner. JP Morgan clearly did get a good distribution partner. Zeal did OK, the interesting thing being that they got lots and lots of very small deals, but a lot of those clients have put in second and third tranches of 100 renminbi or whatever. We’re talking about Hong Kong funds going north into the mainland and raising money there, which have gathered $2 billion net. This is less than about one week’s turnover in the Hong Kong funds industry, so it puts that into perspective. In contrast, southbound funds coming into Hong Kong have gone nowhere. You’re getting negligible sales now, $70 million net after about two years. That’s just nothing. But then, why would anybody buy mainland funds? Most of the funds are not offering markets or products that Hong Kong people want to buy. It has been more than six months since the last southbound fund was put up to the SFC for authorisation. I think they’ve given up for the time being. Durand – One of the functions of the regulator is to protect and educate the markets including investors. We are clearly in front of a scheme that has been set up with many constraints like quotas and other limitations. However, in the long run I am optimistic because this scheme is part of the opening of China’s capital account. There is room for further improvement but it will work eventually. Fei – It would be more helpful if they could include not only mutual funds but also other products. In China there are many good hedge funds products available, absolute return strategies that should be very attractive to the high-net-worth people in Hong Kong, but those products are not included in MRF.
For the Hong Kong funds, there are other competitors like QD products. You have to demonstrate uniqueness if you are going to serve the China retail investor. Wan – Let me add one more point. The biggest challenge of MRF is not just the quota or the distribution – these are all secondary. The challenge is the limited supply of Hong Kong-domiciled funds. There are around 700 registered Hong Kong-domiciled funds, of which over 400 are MPF-related, and they are not in the MRF approval list. That leaves around 300, of which 50% are in the range of less than $100 million. We do not have a big market to grow these local domiciled funds. If I have a fund of the size of only $50 million or even smaller, do I want the hassle of getting MRF approval? The approval time as well as the high legal costs might not justify the distribution under the current quotation. Funds Global Asia – What are the prospects for the exchange-traded fund (ETF) market in this region given the planned launch of the ETF Connect scheme? Aldcroft – I’m hopeful for ETF Connect, but I would have been more hopeful until I met with some people from the stock exchange last week. All the talk has been about ETF Connect being launched in the second half of this year, and no one’s said anything other than that, but I was talking to some people, I won’t name who, who made me sceptical this would happen. They are still waiting for further news from China. Most of what they considered to be the negotiations have been done, but they need three to four months to get the system set up and tested. That would suggest it’s going to be a tough call to get it in before the end of the year. Of course, if President Xi says that he needs to have it before the end of the year, it will be done before the end of the year. But that hasn’t been the case so far. Will ETF Connect work when it works? Theoretically yes, because it will probably operate slightly differently to the way MRF works in that there won’t be quotas to the same extent, but the number of Hong Kong-domiciled ETFs that qualify for inclusion, assuming some of the requirements are the same, will only be about 30 out of 100 or so that are listed here. Then when you think that five ETFs in Hong Kong represent more than 80% of the market, you haven’t got a lot of choice. Durand – The first issue is that, if we look at Stock Connect and consider it to be a success while MRF is not a success yet, mixing the two means that either you go more for the Stock Connect type of flexibility, or you go for the type of MRF flexibility. The other point where I’m not very optimistic for now is the lack of success of ETFs in Hong Kong. I’ve always thought that ETFs should cater for retail investors rather than institutional investors, who can go for the futures market. But what we’ve seen in Europe is that institutions are a big bunch of the investors. Why? Because they come with big tickets and it’s more comfortable for the asset managers to get these ones to get the scale. In Hong Kong, the issue we have is liquidity. Liquidity of ETFs is linked to the liquidity of the underlying. If you take most of the ETFs, they are liquid on paper because you’ve got a market maker, but if the markets get stressed then the underlying market is absolutely not liquid, and that’s a real issue for institutional investors who don’t want to get stuck with an ETF, Hong Kong time, when the markets crash and they can’t get rid of it. Wan – No one is making money if the trend is to lower the fee for the ETF, and the distributor is not getting a commission for this, so who is doing this? When I go into meetings, people ask, “Do you have an ETF strategy?” In the past I’d say, “No, because it’s not the core business of my company.” But now I am waiting for ETF Connect for more details. Maybe active ETFs, I don’t know. Fei – As hedge funds, we like ETFs because we can use them in the investment strategy, but I’m not sure as a business whether it’s profitable or how to market these ETFs. The Chinese retail investors love trading, so if there is a good Hong Kong ETF to give them some exposure, and for them to trade, maybe there is some demand. Funds Global Asia – Financial technology is an increasingly hot topic with blockchain, robo-advisers and other tools gaining prominence. Which types of fintech are you most excited about? Fei – Robo-advisers are not a new thing. They are originally from the US and the two most successful companies, Wealthfront and Betterment, have US$100 billion already. But in China the space is even larger because the US and Europe have very strict regulation, whereas in China we can buy mutual funds, hedge funds, trust products; basically, we can have lots of asset layers, multi-assets, multi-strategies and so on. At my company, we built our own robo-adviser. We have a very good-looking interface, a convenient way to rebalance every day, and we have the NAV calculation updated every day. I think this kind of service is the future. People like new things, new technologies, so they will not be bored because we keep adding new features online. We have a social network embedded in the tools, so people can chat, and people can observe a friend’s allocation if they get approval. Lots of things are going on. Durand – One of the problems we have today is that we look at things like blockchain, which is a fancy technology, and we try to build something out of it. That’s the wrong way around. Instead, I take the example of Calastone. I’ve been impressed with these guys. What they did is that they came with a very simple technology, messaging, that had existed for ages. They competed with Swift. I wouldn’t have bet my shirt on them at the time, but they’ve been successful. What did Calastone do? They didn’t come as a fintech, they came, looked at the market, looked at what the needs were, what was done wrong or not properly, and found a way to create an ecosystem. The technology is really nothing fancy, it’s very simple. In our industry there are lots of things that are not done as efficiently as they could, and so there’s a lot of room for fintech to do great things. But they have to find their business model. Wan – I am old school. I’m still struggling to figure out how artificial intelligence will work effectively to help distribution. I also have concern on robo-advice as the most important criteria for financial advice is trust. It’s a human relationship thing. For me, to build my trust with a machine – I’m still struggling on that. There are definitely areas that we need technology, we can’t live without it these days, but whether it’s as extreme as robo is a different story. Aldcroft – I think it’s all overblown personally, but I do think robo-advice works. Within Citi we’re already doing that, but it’s in conjunction with relationship management, so it’s not independent at this stage. Funds Global Asia – Some reports suggest environmental, social and governance (ESG) investment is gaining a foothold in China after a slow start. Do you believe this is a long-term trend? Durand – E maybe, S perhaps, Governance most definitely. There is a need. Once again, the market has needs, and when the needs are there, they are fulfilled. China is an emerging market and one of the weaknesses of emerging markets is governance, so this is going to change. How quickly? I don’t know, but this is definitely a trend. Wan – I do not have a very good answer on ESG. I believe in ESG, of course, but it is difficult to confirm that a company has a corporate ESG fund or policy, because the data is not there. ESG can only apply when it’s already a standard that everyone follows. Fei – I don’t follow this much, but as far as I know, my former two employers – State Street Global Advisors and E-Fund – partnered together to launch an ESG product in mainland China. So, people are doing that. Aldcroft – I’m enormously sceptical. I see ESG being used as a marketing tool. I don’t believe many people are doing it honestly. “Why have you got ESG? To help someone feel good about investing.” That’s about the only reason. The data is not available to do it properly. Funds Global Asia – Outside of Greater China, which markets in the Asia-Pacific region are most interesting to you, either from an investment or business development perspective? Wan – We are a Hong Kong local asset management company. People always ask me where is our market, and I say, “Anywhere that is interested in our Asian investment capability”. However, Asia is easier and convenient for me to service. We have clients in Japan and South-East Asia. I do have funds registered under the Swiss MRF, that’s why I have clients in Switzerland, but I am still working out a business model there. Regulatory changes are quite unpredictable for most of the emerging markets, which doesn’t help market development. An example is Thailand, where the government welcomed foreign investment – foreign funds do not need authorisation to be distributed there. Lately, they imposed tax for direct bond investing but not for bond funds. But this arrangement will be changed soon. This might damage some of the bond funds being sold in Thailand. The other market which needs our Asian fixed income capability is Japan. The negative interest rate environment in Japan creates lots of problems for corporates. They are keen for investment solutions with yield enhancement features. The rigorous regulation, however, creates challenges for servicing and reporting. Aldcroft – For the fund management industry, Thailand offers a fantastic opportunity, but it’s accessing that opportunity that’s difficult. Foreign feeder funds have gone from $2-3 billion to $35 billion in three years in assets under management, but you’ve got limitations in the number of fund companies that are willing to take them and the number of new funds they’re willing to add, and the tax issue has moved from being very favourable towards bond funds to being neutral. Another problem is that in Thailand, the banks don’t operate as an open architecture funds distribution outlet, unlike in most other parts. They generally only sell their own bank-owned asset management company funds. If you are a foreign fund company, you have to find a way to get yourself as a feeder on to that, and displacing the likes of Pimco or JP Morgan as the provider is difficult because they’re now incumbents in the market.
We should not underestimate Taiwan as a growth market. It’s still bigger than Hong Kong and Singapore. But I would agree with Eleanor that Japan is of massive interest. Japan wants to be one of the leaders in the Asia Region Funds Passport scheme, along with Australia. Separately, Japan is moving closer to wanting to build its own ability to have non-Japanese equity and other non-Japanese securities funds. Whether that comes in the form of feeders, direct Ucits products or direct products being sourced elsewhere, is open, but when you think about the size and the scale of the Japanese market, you can’t not want to be part of it. Durand – There are opportunities in the region, it’s a great place to do business – much better than South America. If you look at emerging markets today, if you want exposure you want to be here. How many countries in the region have more than 100 million people? Even if these people are relatively poor, they are on the right trend. These are places with huge potential. Fei – From the business development perspective I vote India, because of their population, which includes many young people with skills, and also they are growing fast. Meanwhile, they are learning from China. There are some interesting companies in India like the Indian version of WeChat, the Indian version of Alibaba, and we are hoping to collaborate with local players to build an Indian version of Wanwei as well. Funds Global Asia – What are the main things you hope to achieve in the next 12 months, both at an industry level and within your organisation? Aldcroft – At a corporate level, we have to hope the markets will remain steady. In Asia, we’ve generally been OK, but we’ve seen in other parts of the world some serious accidents occur, either deliberate or otherwise, that have been crippling to many competitors. What we want to avoid is significant downturns in markets or major bankruptcies. Durand – Societe Generale has been doing well in 2017 and I hope this will be even better in 2018. For the industry, I wish that individual investors understand the risks better. What we see here is tremendous investments into fixed income funds when the interest rates are going up, and I think that’s appalling. I don’t think investors in Asia are really mature yet, and I would like to see that happen. Fei – In the past year we have achieved some milestones. We worked with the third-largest trust company in China, we signed a contract with the bank, and recently we also signed a contract with an insurance company owned by a bank. We want to build industry standards of providing a robo-adviser platform, and if we are the leader of providing these standards, we will have more opportunities down the road because more and more large institutions will join in and use our service. Also, I want to recruit more talents. We are short of people. Wan – The finance industry is a people business and I always struggle to hire new talents. Career aspirations are different nowadays to those old days when I grew up. People want quick returns, quick results, and they have a lot of theories like work/life balance, which is different from our time.
The second thing is about Hong Kong. In the short term, Hong Kong will be leading development in the Greater Bay area. There are lots of new initiatives where Hong Kong can take the lead. Longer term, I doubt what Hong Kong can offer to continue ourselves as an international financial centre. We need talents to lead Hong Kong to a bright future. ©2018 funds global asia

Executive Interviews

INTERVIEW: Operational challenges

Jun 09, 2018

Caroline Higgins of Northern Trust tells George Mitton about A-share inclusion, ETF Connect and why Cayman funds predominate in the region.

INTERVIEW: Making a name

Apr 18, 2018

Formed by a merger in 2012, Old Mutual Global Investors was little-known in Asia. Carol Wong, managing director for Asia-Pacific, is changing that. She talks to George Mitton.

Roundtables

HONG KONG ROUNDTABLE: a long-term project

Jun 09, 2018

Our panel discussed robo-advisers, ETF Connect, and why the mutual recognition of funds (MRF) scheme will take time to develop. Chaired by George Mitton in Hong Kong.

SINGAPORE ROUNDTABLE: Small nation, big ambitions

Apr 18, 2018

Our cross-industry panel discussed fund passporting, robo-advisers and the potential of a new investment structure, the S-Vacc. Chaired by George Mitton in Singapore.