China’s first quant fund underscores diversification drive

Dec 13, 2017

China's array of investment fund options is growing, with Man opening a quantitative strategy fund. Others will likely follow, as regulators seek to ease open investing options.

China’s first quant fund underscores diversification drive

The drive to offer investors in mainland China more diversification opportunities continues apace with foreign fund firms at the vanguard after one of them this week became the first to offer a non-traditional strategy.

The extra diversification potential brought by foreign asset managers is thought to be keenly expected by the investment community in China including regulators, investors, and service providers.

London-headquartered Man Group, one of eight foreign asset management firms so far licensed to sell private funds to institutional and high-net-worth investors in China, obtained regulatory approval to launch its first onshore investment product -- a quant strategy focused initially on listed futures.

The green light follows China’s pledge last month to further open up domestic markets to foreign institutions and create new opportunities for foreign players to help local investors better diversify their portfolios.

“Foreign asset managers have a competitive edge in terms of those non-traditional strategies," Melody Yang, Beijing-based partner at law firm Simmons & Simmons, told AsianInvestor. "Compared to China's asset management market which is still very young, [the] foreign asset management market has developed for more than decades.”

She added that Chinese investors would likely seek to further diversify their investment strategies if they offered higher returns,” describing comparatively new non-traditional ones as potentially “very appealing”.

That echoes a May speech by Lou Jiwei in which the chairman of the National Council for Social Security Fund (NCSSF) said the state reserve pension manager would “actively” try new financial instruments and investment strategies to better diversify investment risks and improve returns.

Quant strategies

Quant futures strategies, which are usually run by hedge fund managers, are just one of the more sophisticated investment methods that foreign asset managers could provide for Chinese investors -- others include advanced passive strategies such as smart-beta.

Quant investments developed rapidly in China from 2012 following the opening of stock futures trading in 2010 and the further liberalisation of futures rules in 2011. But the good times only lasted until 2015 when China experienced a stock market crash, which spurred the China Securities Regulatory Commission (CSRC) to tighten regulations on stock futures, a senior research analyst at the wealth management division of a mid-sized Chinese bank, told AsianInvestor on condition of anonymity.

That move severely dampened the development of equity quant strategies, which would normally need access to hedging through the trading of stock index futures. So, currently, outright futures trading is among the quant strategies that have so far developed best in China, the unnamed analyst said, citing quant teams active in cities like Shanghai, Shenzhen and Hangzhou.

It makes sense that foreign managers kick off their newly licensed private fund management (PFM) operations in China with strategies they are familiar with and that can be supported by local talent, one Shanghai-based lawyer, who declined to be named, told AsianInvestor. After building up their teams in China, they can develop more diversified product lines over time, the lawyer said.

Man's new quant strategy, to be run by its PFM wholly foreign-owned enterprise (Wfoe) in Shanghai, will focus initially on futures contracts listed on China's onshore markets including agricultural commodities, bonds, metals, energy and stock indices, which the firm described as “diverse” and “liquid”. It aims to be uncorrelated with traditional portfolios.

Having obtained approval from the Asset Management Association of China (Amac) and prepared the necessary infrastructure with Chinese brokerage Guotai Junan Securities, Man is expected to start some trading under the new quant strategy later this week, a source familiar with the matter said on condition of anonymity.

For the time being Man is understood to only want to focus on institutional fund of funds investors, with whom it's easier to work with from an operational perspective, rather than with any individual investors, the source said.

Change

As well as announcing the removal of foreign-ownership limits on mainland Chinese banks on November 10, Beijing raised the cap on foreign ownership stakes in asset managers, insurers, and securities companies to 51% from 49%

China's fund regulators are also embracing change, Simmons and Simmons' Yang said, noting the attempts to include robo-advisers in its new regulatory framework in November.

Seeing the trend, global asset managers are expected to allocate more resources into macro, credit and equity research as well as increase investments into China (and the Asia-Pacific region in general), Frank Wu, China general manager and chief representative of Alternative Investment Management Association, said.

But being able to navigate through the regulatory hurdles, compliance, and required risk management remains a key requirement also for foreign asset managers looking to enter the market. “It is particularly important in China [because] when the asset management market is developed so rapidly, so is its regulatory framework,” Yang said.

That’s why Man doesn't plan to use automated orders, high frequency, or arbitrage trading as part of its onshore quant strategy, to be fully compliant with the spirit and letter of Chinese regulations, a source familiar with the matter told AsianInvestor, on condition of anonymity.

There are currently eight foreign asset managers with PFM licenses from Amac. Besides Man, Fidelity and UBS Asset Management have so far also registered private funds in China. AsianInvestor has also learnt that Fullerton and Aberdeen Standard Investments plan to launch equity funds, while Neuberger Berman will launch a multi-sector fixed-income fund.

As of end-November, there were 8,294 private fund managers that invest in public securities in China with total assets under management at Rmb2.28 trillion ($345 billion), according to Amac data.