Latest batch of QDII funds focus on Bric equities

A trio of emerging markets-focused equity funds for qualified domestic institutional investors (QDII) is launching in quick succession, underlining the demand for diversification in China.

The three funds – two of which are adopting passive strategies and one more active – are all targeting the stock markets of Brazil, Russia, India and China (Bric).

The China Southern FTSE Bric Index Equity Fund and Citic Prudential Bric Active Allocation Equity Fund were scheduled for launch on November 3 and November 8, respectively, while the China Merchant S&P BRIC Index Equity Fund has been approved by authorities and is expected to follow suit soon.

“It is a natural progression for new QDII funds to focus on Bric markets,” says Gerard DeBenedetto, executive director at Guotai Asset Management in Shanghai.

He notes that the economic growth stories of emerging markets is something that is both familiar and attractive to Chinese investors seeking diversification away from pure Chinese equities.

Francois Guilloux, director of regional sales at Z-Ben Advisors, also highlights the outperformance of emerging markets this year as a contributory factor behind Chinese interest, with the MSCI Emerging Markets Index having outperformed China’s CSI 300 by 15% since the beginning of this year.

However, DeBenedetto points out that handling assets in four different and developing markets is also a tough task for QDII fund managers.

“You are talking about 12 timezones, four different markets and thousands of individual stocks,” he says. “It’s very complicated not only from an investment perspective, but also in terms of operations such as clearing and settlement.”

Such complexity may explain why China Southern and China Merchant opted for passive strategies by tracking the FTSE BRIC Index and S&P BRIC Index, respectively, in their funds.

Citic Prudential, on the other hand, will manage its product actively by allocating 60% of assets into ETF funds and the remainder into individual stocks, with Prudential Asset Management (Singapore) acting alongside as foreign adviser.

“The alpha will come from two streams: the active allocation of different ETF funds, and individual stock-picks,” explains the product’s fund manager Ruming Liu.

“ETF allocation will be constantly adjusted according to the market situations to enhance the performance of the fund. At a time, we may, for instance, underweight Russia and overweight India.”

When asked what the percentage split was among the four markets, Liu disclosed that Hong Kong would count for over 40%, Brazil for 25-30%, and India and Russia about 10% each.

Further, Guilloux points out that Chinese investors are not unduly concerned about currency appreciation in their overseas investments, noting for example that the currencies of developing nations are all expected to continue to appreciate against both the US dollar and euro.

“To Chinese investors who are seeking double digits return, 2-3% appreciation of RMB is not problematic,” he says. “Although the RMB will appreciate against the US dollar, it is not necessarily stronger compared with other Bric currencies.”

Liu also noted that he could resort to using non-deliverable forwards as a hedge against foreign exchange risk “when necessary”.

But DeBenedetto suggests that hedging against the risk of RMB appreciation in a QDII fund may not be cost effective. “At this moment, everyone is expecting the RMB to appreciate and bet on the upside. Using NDFs to hedge is very expensive now and the net effect may not be significant.”