Mutual recognition structure starts to take shape

Progress towards the launch of Hong Kong-China mutual recognition has picked up with a number of key decisions made on its systems and structure in recent weeks.

A meeting of officials and industry participants in Shenzhen last month has led to agreement in a number of areas, including on the clearing systems to be used.

However, enthusiasm for the scheme, at least on the mainland China side of the border, appears to be cool, with the cost of participating putting off many fund managers and custodians.

The most recent meeting was a closed-door session in Shenzhen on February 10, with nearly 100 industry players and regulators present.

The audience included officials from the China Securities Regulatory Commission (CSRC), State Administration of Foreign Exchange (Safe), Securities and Futures Commission (SFC) and the Hong Kong Monetary Authority (HKMA).

Key issues discussed at the Shenzhen meeting included the fund subscription, clearing and settlement.

An industry source who attended the meeting told AsianInvestor it was agreed that the China Securities Depository and Clearing Corp (CSDCC) and the Central Moneymarket Units (CMU) would act as the central transfer agents for each side.

The CSDCC is China’s central depository and a result of the merger of the Shanghai Securities Central Clearing and Registration Corporation (SSCCRC) and the Shenzhen Securities Central Clearing Co (SSCC). CMU is the clearing system operated by the HKMA.

“The consensus at the meeting was for CSDCC and HKMA-CMU to build linkage so that funds would deal with one central agent in China and in Hong Kong,” said the source, who requested anonymity on account of the closed-door policy of the meeting.

This was substantiated by another source, who said that while CMU will build the link, it is not essential for it to be used.

The source said other issues discussed included challenges in fund administration, distribution and investment quota, but no specifics were finalised.

“The fund administration and order routing remains a big issue. Investment quota is to be applied but there was no information on amounts or how it will be allocated," the source said.

“If the administration issues become too big a problem then the scheme will likely be pushed back.”

The idea of launching mutual recognition with Shenzhen as a pilot was also floated, according to another source. But this could not be confirmed with other industry players.  AsianInvestor reached out to the SFC and to the Hong Kong Investment Funds Association, but the SFC declined to comment and HKIFA didn’t respond to inquiries.

On the possibility of Shenzhen as a testing ground for the scheme, Howhow Zhang, head of research at consultancy Z-Ben Advisors, said: "I've heard of this but haven’t seen anything official. But it is not surprising. Shenzhen wants to take a lead in cross-border investment activities with Hong Kong.

“The Shenzhen government has [previously] proposed that Shenzhen-based investors be allowed to buy Hong Kong MPF [Mandatory Provident Fund] funds. This proposal is not dead yet. Whether this will be folded into the mutual recognition fund scheme remains to be seen.”

Shenzhen has an active fund management market with Rmb1 trillion ($159.7 billion) in assets under management. There are several large asset management companies in the Qianhai area, including Invesco Great Wall, China Merchants, China Southern and Bosera, Zhang noted.

Mutual recognition is considered to be more challenging to launch than Stock Connect because it will involve changes to operational infrastructure and logistics in each centre. There will also be hurdles to distribution.

The scheme has been promoted actively from Hong Kong, with former SFC deputy CEO Alexa Lam a strong advocate of the idea. However, mainland players appeared to be less enthusiastic.

 “If you speak with the custodians and fund managers in China, they are not keen on participating. The custodians are reluctant to invest in operational infrastructure, as well as divert sales force to the scheme,” Zhang noted.

“Fund managers are either making enough from RQFII or they are too small to put resources into mutual recognition,” he added.

The scheme was supposed to be launched after Shanghai-Hong Kong Stock Connect, which went live in November.  Several industry players now expect the scheme will only be introduced after the launch of Shenzhen-Hong Kong Stock Connect.

 “Stock Connect is a much higher priority for the Chinese authorities because the underlying force of that is RMB internationalisation,” said another participant in the Shenzhen meeting. “That’s why I wasn’t surprised that mutual recognition was picked up by Shenzhen and not Shanghai. Shenzhen needs to find its space in terms of all this cross border development.”