China regulation: Big before their time

The leading international private equity players now tend to describe themselves as global alternative asset managers or some variation on the above. It reflects the fact that PE is just one of a number of interests covering real estate, real assets, hedge funds and credit.

China is not as far along the development path but domestic managers are embracing diversification. Private equity has been joined by "sunshine funds" - privately-raised vehicles that operate much like hedge funds, investing in public equities - and now they appear to be moving into retail investor-driven mutual funds.

Last week the Asset Management Association of China (AMAC), an industry organization sponsored by the China Securities Regulatory Commission (CSRC), granted the first batch of "private investment fund manager" certifications. This was followed by an announcement from Shenzhen Capital Group of plans to form Hotland Fund, a separate mutual fund arm.

The CSRC is generally encouraging of such initiatives. They fall in with its long-term ambition to establish a "mega asset management" framework, encompassing private equity funds, fund-of-funds, hedge funds and mutual funds, as a means to further open up the capital markets.

Streamlined regulation is good, but there is still uncertainty among managers as to which sets of rules they will be expected to comply with. There is also no guarantee that multi-platform strategies will prove a success.

"The CSRC and AMAC are proposing a comprehensive asset management regulatory framework. We expect that the regulations for mutual and hedge funds will be different from the regulations for PE funds to some extent," says Serena Tan, an associate in Debevoise & Plimpton. "Right now both hedge fund and PE managers have to complete the same AMAC registration. However, the rules applied to the two categories will likely be different in some respects."

Registration required

AMAC, which operates as a regulatory watchdog, assumed responsibility for domestic private funds registrations in January. The National Development and Regulatory Commission (NDRC) used to be PE's primary regulator but it stopped registering domestic funds in August.

Registration certificates have so far been awarded to 100 managers. It means they are free to operate in PE, VC and sunshine funds, and launch crossover products under a single brand name. Sunshine funds were previously working in "gray areas" without legal status as mutual funds.

AMAC requires managers to disclose personnel details as well as information on fund size and participating investors. Once registered, each GP's profile will be published on the AMAC website. Managers that do not register by the end of April will be barred from the industry.

More than 230 PE firms have become members of AMAC, including Hony Capital, CDH Investments and Goldstone Investment.

CDH registered two entities, having spun out its sunshine fund business from its private equity operation. However, it is possible to receive certification for a group as a whole, with separate subsidiaries pursuing different business lines.

That is the real significance of this development: it allows direct management and distribution of products. There will no longer be a need to rely on trust companies, usually run by domestic banks, to reach institutional investors and high net worth individuals.

"Unlike other international cities such as Hong Kong, where hedge funds have legal status, we can't manage our own funds. We must pair up with a trust company to distribute products and act as financial advisor to them," says Wang Qing, a partner at Shanghai Chongyang Investment Management. "But now we have legal status, it will be easier to raise capital."

Historically, rules governing the sourcing of capital from individual investors were notoriously lax. Although the NDRC stated that fundraising was restricted to private placements by qualified investors capable of risk tolerance, the term "qualified investors" was not defined. It contributed to a spate of illegal fundraising that saw intermediaries cold-calling investors with little knowledge of what they were getting into.

However, a clear definition has yet to be issued under the CSRC-led regime.

"I would be surprised if the regulator removed the current restriction on fund managers raising capital directly from individuals," says Frank Han, executive director of Bohai Industrial Investment Management. "It would cause a lot of trouble. There should be some requirements issued by AMAC or NDRC to ensure only qualified investors get to invest in this asset class."

Broader outlook

While the industry waits for clarification on the rules, a number of managers are already seeking to establish themselves as diversified managers.

US-listed wealth manager Noah Holdings has registered hedge fund, PE and VC entities: Gopher Asset Management, Tianjin Gopher Asset Management and Gopher Noble Shanghai Asset Management. "We have been working on these for a while. A registration certificate means our businesses are officially recognized," says Roger Wang, marketing director at Noah.

As for Shenzhen Capital's mutual fund attempt, the VC firm has actually tested the secondary market waters by investing in wealth management company Hongta Hotland two years ago. It bought a 26% stake to become the second-largest shareholder after Hongta Securities. The relationship between Hongta Hotland and Hotland Fund is unclear.

Even though global PE firms are dabbling in mutual funds as well as hedge funds, these businesses have their own requirements in terms of strategy, liquidity, oversight and disclosure. There is also a huge gap between China and Western markets. Stage and sector strategies that have taken 30 years to mature in North America can't necessarily be transplanted to China.

"For China, I think it's a question of both the maturity of the market and the core businesses of those firms involved," says Andrew Ostrognai, partner and head of the Asian fund formation practice at Debevoise & Plimpton. "At the end of the day, it's mainly a business decision. But it's also a reflection of whether a financial institution is large enough to start having multiple significant businesses. That's hard to say."

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• Topics
• Greater China
• Regulation
• China
• regulation
• CSRC