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Fund Passports in Asia

Fund Passports in Asia

Asia-Pacific (APAC) investors have always been eager buyers of UCITS, accounting for approximately $200 billion of UCITS’ Assets under Management (AuM) or roughly 5% of the total €9 trillion. The buyers are broadly concentrated in Hong Kong and Singapore. However, there are concerns that the fund market could get saturated amid the launch of several regional fund passport schemes in APAC.

The ASEAN Collective Investment Scheme (CIS) was launched in August 2014 and simplifies the regulatory process of selling a vanilla fund vehicle to retail clients across Singapore, Thailand and Malaysia. The second initiative is the Asia Region Funds Passport (ARFP) which broadly mirrors the ASEAN CIS but incorporates Australia, New Zealand, Japan and Korea, although it is hoped it could be extended to Singapore, Hong Kong, Taiwan, Vietnam and Malaysia. ARFP will likely be implemented later this year or in 2017. Both fund passport schemes are modelled on UCITS.

The third initiative is the Mutual Recognition of Funds (MRF) programme between Hong Kong and China. This allows managers domiciled in Hong Kong to sell to Chinese investors and vice versa although it is contingent on firms obtaining regulatory authorisation first. It also scraps a longstanding requirement that Hong Kong managers enter a joint venture with a mainland financial institution if they want to sell to Chinese retail allocators. This requirement often presented a massive operational due diligence headache, and incurred potential reputational risk for Hong Kong managers. The volatility in China has slowed down MRF approvals by mainland Chinese regulators but this appears to be changing as markets have broadly stabilised. However, MRF is unlikely to be extended to other countries just yet.

The APAC market is certainly ripe for fund managers globally. Despite some challenges in emerging markets, the region has a growing and abundant middle class. Data from PricewaterhouseCoopers (PwC) suggests assets controlled by high net worth individuals (HNWIs) in APAC could reach $22.6 trillion in four years. APAC HNWIs are likely to become more populous than those in North America in 2016. The institutional investor base is certainly growing as sovereign wealth funds (SWFs), pension plans and cash-rich corporates look to allocate their capital beyond stocks and bonds.

At present, the capital managed by ASEAN CIS is minimal although few funds have been approved by regulators. In time, this will change but ultimately patience is required. These funds have parallels with UCITS insofar as they are subject to investment restrictions, limits on securities lending, repo activities and derivatives, the mandatory appointment of a global custodian and counterparty exposure limits. Those looking to launch an ASEAN CIS must have at least $500 million in AuM and a five year investment track record. However, these restrictions could be eased in time. Local representatives must be appointed in jurisdictions where the ASEAN CIS is marketing to liaise with regulators. Again, this has similarities with requirements in EU member states whereby UCITS must appoint local agents. 

The key question UCITS managers should be asking is whether these regional fund brands could be a potential threat to their market dominance. APAC regulators are certainly keen to promote a regional funds passport. Equally, those same regulators are aggrieved with the European Securities and Markets Authority (ESMA) for failing to immediately confirm that Hong Kong and Singapore met regulatory equivalence under the Alternative Investment Fund Managers Directive (AIFMD). This has effectively shut out Hong Kong and Singapore based fund managers from the pan-EU AIFMD marketing passport. While ESMA’s position probably did not intend to cause deliberate upset in APAC, it could give impetus to regional regulators to encourage competition to UCITS.

Barring that, the overall threat by these fund passports to UCITS in APAC is unlikely to be significant in the short to medium term. There are a number of reasons for this. As with marketing into the EU, the distribution channels in Malaysia, Singapore and Thailand are varied with investors going through banks, independent financial advisers or even online platforms. Simply distributing a standalone fund to retail clients will not be straightforward, particularly if it is a new brand. Going via a bank or distributor will inevitably result in steep distribution fees for the manager. As such, it will take time for these new funds to obtain market traction.

The disparity of economic and regulatory development across APAC is far greater than in the EU. Whereas most countries in the EU share a single currency, this is not the case in APAC. This exposes managers and investors in the ASEAN CIS to FX risk. Attaining a degree of harmonisation around taxation is crucial to the success of the ASEAN CIS. Different countries will have different approaches towards taxation on dividends and capital gains, and this needs to be resolved before regional fund schemes can flourish. At present, this appears not be a priority for the countries involved. As and when this happens is unknown. But until it does, UCITS will dominate the mutual fund space in APAC.

It is also crucial to note that UCITS has existed for over three decades now. It is a trusted, popular and well-developed mutual fund wrapper. However, UCITS managers with a focus on APAC should not rest on their laurels and they must be aware of the growing challenger brands that are emerging in APAC.