HK equity surge puts pressure on QDII quotas

Hong Kong’s stock market rally is putting pressure on Chinese fund managers’ QDII quotas, the first time the scheme has faced shortages since its launch.

The surge in quota usage is seen as a reflection of fund managers' desire for Hong Kong equities, access to which was only liberalised two weeks ago.

It is a remarkable turnaround for the Chinese investment scheme, which in recent years has been seen as failing to live up to expectations.

China Asset Management, the mainland’s second-largest fund manager, on April 9 had to suspend new subscriptions to a qualified domestic institutional investor ETF which tracked Hong Kong’s Hang Seng Index. The fund house said it took the action because it had exhausted its $3.5 billion QDII quota. A spokesman for the firm said it was the first time it had run out of quota and it had applied to the State Administration of Foreign Exchange (Safe) for more. The application has not yet been approved.

Both Shenzhen-based China Southern Asset Management and Guangzhou-based E Fund Management yesterday suspended new subscriptions worth more than Rmb1 million ($161,000) to their QDII funds due to insufficient quotas. Beijing-based Yinhua Fund Management and Guangzhou-based GF Fund Management also had to suspend new subscriptions to its Hong Kong equity fund last week.

“Investors have had such high demand for QDII products, mainly driven by the Hong Kong equity rally over the last few days,” said Ivan Shi, analyst at Shanghai-based Z-Ben Advisors. For example, China AMC’s QDII Hong Kong equity exchange-traded fund quadrupled its outstanding shares in just two days last week before it had to suspend new subscriptions.

This could be herd behaviour on the part of Chinese retail investors pouring money into QDII Hong Kong equity funds because QDII funds investing in US equities were not impacted by such equity flows, Shi said. He said that the US equity market has not attracted such similar Chinese liquidity flows during its bull run of recent years.

Huang Liang, QDII fund manager at China Southern Fund Management, said the flows reflected Chinese investors’ appetite for Hong Kong equities despite their relatively low valuation compared to onshore A shares. Huang said he expected more onshore money to flow into Hong Kong shares, which could further fuel the market’s upward trajectory.

Liu Jing, QDII fund manager at Beijing-based Harvest Fund Management, said Chinese investors were looking to diversify into overseas assets, and the recent Hong Kong equity market rally would accelerate new allocations.

Chinese investors’ demand for Hong Kong equities was initially ignited by the China Securities and Regulatory Commission’s (CSRC) decision last month to allow mutual funds to invest in the shares via the Stock Connect scheme. After the daily southbound Stock Connect quota was used up last week, Chinese money poured into QDII funds which invest in Hong Kong equities.

The Hang Seng Index has surged by 12.7% since the CSRC said it would allow onshore mutual fund managers to invest in Hong Kong via Stock Connect on March 27. Meanwhile, the Hong Kong bourse’s average daily turnover reached a record high of HK$256.6 billion over the past four trading days - 369% higher than the average daily turnover of HK$69.5 billion in 2014.

QDII, the cross-border scheme which lets Chinese managers invest overseas, was launched in 2007 when worldwide equities were peaking prior to the onset of the global financial crisis. It was seen as a failed attempt to encourage domestic investors to allocate overseas due to losses sustained by retail investors in the early stages.

According to Safe’s annual fund flow report, new QDII quotas worth $19.7 billion were approved in 2014. However, Safe also took back $20.7 billion of QDII quotas from holders who did not make full use of them, suggesting that the whole QDII scheme contracted last year.

At present, 132 firms including banks, fund managers and securities firms, insurers, and trust companies are holding QDII quotas of $13.84 billion, $37.55 billion, $30.85 billion and $7.75 billion respectively.

Among the fund managers and securities firms, the top five holders are China AMC ($3.5 billion), Harvest Fund ($3.4 billion), China International Fund Management ($2.7 billion), China Southern Fund Management ($2.6 billion) and China International Capital Corporation ($2.2 billion).