beyondbrics

China’s tight regulatory controls on investments are a fixed point in the fluid world of fund management. So it will come as no surprise that its regulators are pretty suspicious about hedge funds, as a report in Monday’s FTfm explains.

The China Securities Regulatory Commission is uncertain how much risk they pose, and while it is evaluating that risk, potential hedge fund managers face so many restrictions that very few are able to operate as true hedge funds.

For example, the Chinese government has recently approved the use of short selling using stock index futures, along with margin trading. But borrowing individual stocks to sell short is difficult.

There are currently only about 50 stocks in the CSI 300 index that can be shorted with government approval, and it is an expensive business, costing around 10.1 per cent a year.

“The broker is only allowed to buy stocks and loan them to you using his own money – he can’t use customers’ stocks. That’s why the market is so limited and expensive,” says Zhen Liu, head of index quantitative investment at E Fund Management.

Leverage, another basic hedge fund tool, is also lacking. Hedge fund managers cannot officially borrow to invest – although Liu says investors who want to gear up often borrow from family or friends.

While there are about 200 licensed institutions that could potentially run hedge fund strategies: 63 asset management companies, 100 or so brokerages and roughly 20 insurance companies, few are actually doing so.

Instead, perhaps because of the regulatory barriers, most of China’s hedge fund strategies are being run by private managers, with a basic asset management licence and operating largely off-radar.

Now, the CSRC intends to bring these unregulated managers under its spotlight, if for no other reason perhaps than to determine where the money they manage is coming from.

Peter Alexander, principal at Z Ben Advisors, says a revised funds management law, due to be put in place in the next few months will bring those unregulated managers into the CSRC fold.

Liu, whose E Fund Management (an established asset manager with $29bn in assets under management) was one of the first to raise assets domestically from wealthy individuals using separate managed accounts, thinks the regulatory push could boost the hedge fund industry.

“I wouldn’t be surprised if in two to three years we see multiple billion dollar hedge funds,” Liu said.

I suppose it will all depend on whether the CSRC decides that hedge funds are a “good thing” – and perhaps what it discovers when its spotlight illuminates those who have been operating in the shadows.

Related reading
Fund flows: surfing the EM wave, beyondbrics
China hedge funds, Lex
In depth: hedge funds, ft.com