At Rmb10.9 trillion ($1.8 trillion) in assets, the trust sector has already overtaken insurance as the largest segment in the financial industry after the banks. It has been growing at an average of 50% a year since 2009. Were this pace allowed to continue, China’s trusts could notionally outgrow the entire US economy – at current levels – by 2020.
Such “wild growth” has been permitted in an otherwise tightly regulated industry, the China Securities Journal explains, because trust firms serve as the laboratory for riskier avenues of finance such as shadow banking. And if things turn sour, losses are mostly confined to wealthier individuals.
A lot of what goes on in the sector is lending, plain and simple. But there is also activity in a wholly different and uniquely structured asset class – the sunshine funds.
Sunshine funds date back to 2003 when the Yunnan International Trust set up China’s first alternative investment fund, which was backed by the provincial government. A year later, Zhao Danyang – the man who paid $2.11 million for lunch with Warren Buffett (see photo above) – launched a similar structure. But he did so as a private sector initiative and the money came from wealthy individuals.
What was created was soon being termed a “sunshine private fund” because it was deemed to be more straightforward in its disclosures than the first generation of investment funds with state backers. In fact, this was something of a misnomer in structural terms, because the rules stipulated that their investment officers – folk like Zhao – could only be hired as consultants, their fundraisings had to be organised through trust firms and their assets had to be held in third-party banks. Unlike their mutual fund counterparts – which are required to follow strict asset allocation policies stipulated by the China Securities Regulatory Commission (CSRC) – sunshine funds were also regulated indirectly via the China Banking Regulatory Commission through oversight of their trust firm partners.
“We’re like a child without a dad or mum. For the past 10 years we have never had an official licence or legal status,” a sunshine fund consultant told the Shanghai Securities News.
But the rules started to change last week when the Asset Management Association of China (AMAC), an industry group under the CSRC, started to grant certificates of registration to the sunshine funds. Instead of routing through the trust firms, these funds can now manage their own capital directly, as well as market themselves face-to-face with institutions and high net-worth clients.
Why is this important? The move could lead to the establishment of a Chinese hedge fund industry, the Southern Metropolis Daily reports, especially if clearer regulations on short selling are introduced.
“Managers of sunshine funds are now feeling like migrant workers who’ve been homeless for 10 years, and suddenly find themselves getting a Beijing hukou,” the newpaper said, referring to the residency permits that formalise status within city limits (for more, see WiC88).
Because of the asset allocation rules imposed by the CSRC, many investors have shunned mutual funds, which partly explains the stock market’s lacklustre performance in recent years. But it also points to some of the attraction of the sunshine funds, Bloomberg notes, which are freer to move to cash when equity investment becomes unattractive (mutual funds are required to keep at least 60% of assets in stocks) or to choose more concentrated positions. Sunshine funds can hold a 30% exposure to a single stock, for instance, while the cap is 10% for mutual funds.
According to the China Trustee Association, sunshine fund assets were about Rmb45 billion in 2009. That spiked to Rmb227 billion by early last year. Another 268 new funds have been set up since the beginning of 2014. That brisk growth is perhaps the reason why the regulators finally acted: the AMAC announced last month that sunshine funds could register for formal status and more than than 1,000 funds have already lodged applications.
By allowing alternative investment funds to develop on their own, regulators may be hoping to deflate the trust industry’s growth, CBN says. Chinese brokerages and the wider stock market could also get a boost from the cluster of new institutional clients. Fifty funds have now been certified but that number looks set to swell in the months ahead.
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