The Asia Regional Funds Passport (ARFP) bug
The ambition does not often equate with the practical reality. This statement is true when you consider the bumpy road over which the ARFP has travelled to implement a regional access structure. Whilst the ARFP continues to hold promise1, little progress had occurred until recently and timeframes appear to be slipping. Despite there being strong desire to achieve the ARFP2, the scheme continues to get stymied by infrastructure headaches such as regulatory framework harmonisation, tax neutrality3, limited jurisdictions backing the scheme4 and the lack of an identified sole governance body.
Perhaps sensing such lethargy, Malaysia, Singapore and Thailand recently signed a Memorandum of Understanding to enhance the ASEAN Collective Investment Schemes (CIS) Framework, to promote greater cross-border offerings of funds, enabling fund managers to offer a broader range of products to investors in the region5.
If you were to consider this development and add to it other initiatives such as the Mutual Recognition of funds between Hong Kong and China, the competition for a regional hub for funds in Asia and the extent of UCITS already being offered in the region, you might wonder whether it is worth the pain of persevering with the ARFP.
It is. The reality is that the benefits of regional passporting are significant and are worthwhile. The UCITS regime’s success has been remarkable, but we need to remember it started in 1988 and that there have been five evolutionary tranches since its inception, with further possible amendments being mooted6. This continued development and its starting in an advanced position with a unified regulatory framework chipped away at inefficiencies as it has evolved, and succeeded by offering greater investment options and safeguards for investors. UCITS remains impressive and growth continues to be strong, with around 50 per cent of all UCITS sales outside the European Union.
Why continue with it?
The desire to conclude and implement the ARFP remains a focus and should be encouraged; Asia’s GDP is forecast to grow at double the rate of the rest of the world, with a population representing over 60 per cent of the world’s total7. Benefits are compelling, with USD600 billion in funds under administration by 2030 being cited8.
So how can we get to where we need to be and what can we learn from the trials and tribulations of UCITS? ARFP could commence with a restriction on higher risk investments such as derivatives, alternative asset classes and structured products, and leverage the transferrable elements of the regulatory framework while resolving the tax neutrality questions and requirements. Benchmarking its features against UCITS should be the starting point, with the framework developing thereafter to cater for multiple currencies, fee structures, differing distribution classes and commission arrangements.
A solid framework promotes investor confidence and competitiveness which spurs other enhancements, such as increased sophistication in the range of investment options, strategies and efficiency which we all, with or without a local presence, can benefit from. Reduced costs seem to be the gold medal however, with an estimated USD20 billion per year being noted as a possible achievement9.
Lower costs and complexity also equal increased economies of scale – a point aptly demonstrated under the UCITS regime, with the Commission of the European Communities’ estimate of improved efficiencies for the European funds industry standing at several billion euros10.
ARFP conclusion: Don’t give up!
When all is said and done, UCITS does not cater for Asian market needs – the platform was developed for the European Union. The opportunity to develop an Asian platform to cater for local market investor needs must be at the forefront of the regional agenda despite the challenges. A key challenge would be catering to the great diversity across Asian markets at varying stages of economic development, maturity and size, and with investors at varying levels of sophistication, along with distinct cultures and languages.
Further, ARFP is not a substitute for UCITS; UCITS are required to access Europe and some Asian markets, such as Taiwan, which does not participate in the existing Asian passport or mutual recognition schemes. Some firms also continue to use UCITS to indirectly access different markets in Asia.
Market access: Taking matters into their own hands
Putting aside the ambition of regional cross-border developments, some jurisdictions are simply ensuring that their market is as accessible as possible to attract investment. At a domestic level, we are seeing these initiatives:
You cannot ignore the local China mutual fund market, USD2 trillion+ as of February 201811. China remains a big domestic market for offshore fund managers but still has limited access points, being via (i) a joint-venture (JV) asset management company (AMC) between foreign and domestic managers, (ii) Mutual Recognition of Funds (MRF) between Hong Kong and China and (iii) arguably the Qualified Domestic Limited Partnership (QDLP). The positive news is that there are ongoing bilateral discussions between China- Luxembourg and China-Singapore on expanding the mutual recognition of funds scheme. To a certain extent, the recent announcement of relaxation of foreign ownership on JVs could potentially change the plan of some foreign AMCs too. Timing is key, however, and this is expected to happen in 2018 or early 2019. The benefit will be that instead of distributing funds in China via MRF, a foreign AMC may acquire a domestic AMC in China to sell funds locally. Specifically, China plans to significantly remove restrictions on foreign ownership of Chinese financial institutions, including increasing foreign ownership limits.
The implications are vast. If it transpires, this will be one of the most significant barrier removals to foreign capital for funds and the foreign investor community ever. While the move is in line with market expectations, the bold roadmap to completely remove foreign ownership restrictions in a majority of Chinese financial institutions still exceeded our (and likely the market’s) initial expectations. In a nutshell, this is positive for both Chinese and foreign institutions – foreign institutions will gain greater access to the vast Chinese financial industry, and at the same time bring in precious experience in product design, credit analysis and pricing, risk management, liquidity management, and other areas.
Discussions in Hong Kong have recently considered an open funds structure by way of an open-ended fund company (OFC) initiative. This was mooted in June 2017 and is due for delivery in 2018 with the familiar objective to become a global, full-service asset management centre, complete with a full range of ancillary services12. Refreshingly, this objective has teeth in that it echoes the findings of a recent survey13 that the majority of asset managers believe that Hong Kong will be the leading Asian cross-border fund domicile by 202514.
In Singapore, we are following S-VACC, the funds structure the Monetary Authority of Singapore has been working on. The submission for consultation on the proposed regulation closed on 24 April 2017, and while the expectation was that a final paper on the structure would be released in February 2018 along with the subsequent codification of rules by Q2, this is still outstanding. There are many similarities when compared to other fund forms offered in Ireland, Luxembourg and Cayman15 yet Singapore remains committed to its business strategy to be the Asian hub for fund management and domiciliation.
Australia is developing the CCIV (Corporate Collective Investment Vehicle) due to mutual funds and unit trusts being considered deficient in overseas markets, with the aim of the federal government being to enhance the international competitiveness of the Australian funds management industry. The new CCIV fund structure launch is aimed to coincide with the proposed ARFP launch and has its sights set on aligning to the international regulatory framework. Additionally, Australia signed an agreement with Luxembourg in 2016 to enable Luxembourg managers the ability to distribute UCITS into Australia without an AFS license.
We are seeing amendments to regulations16 and oversight in South Africa. On 1 April 2018, two new regulators came into operation – the Prudential Authority (PA) and the Financial Sector Conduct Authority (FSCA). This implements a new Twin Peaks model of financial sector regulation in South Africa. However, we are not seeing overt developments on creating access for funds outside of the proposed amendments to the Collective Investment Schemes Control Act.
In the Middle East there has been progress in the form of consultation papers and regulations to enhance the fund regime. The Dubai Financial Services Authority made various proposals to support the growth of the funds industry17 spurred on by the consultation that closed in December 2017; however, amendments to the legislation have not been issued yet. And Bahrain, with a view to retaining its ‘destination of choice’ for funds establishment has recently introduced Investment Limited Partnerships (ILP) and Protected Cell Companies (PCC) to increase accessibility. Both ILP and PCC are equally restricted in the permitted activities they can undertake. The differences between a PCC and a ILP are: (a) ILP allows investors to establish limited partnerships nationwide, as oppose to only in identified free zones; (b) ILP will have its own legal structure that allows investors to contribute to the investment fund without taking an active management role – will be mostly led by banks and investment firms with a Category 1 or 2 license; and (c) the new legislation will allow new ILPs to be incorporated and permits existing partnerships to convert to an ILP.
Funds access: Where to now?
Without regional development, the ASEAN region will continue to see bilateral or trilateral arrangements. We hope that ASEAN will keep its eye on the main prize to maximise the benefits and address the inefficiencies that arise under different structures. We continue to believe that the findings and experiences of UCITS can be leveraged, but innovation is required to create a competitive alternative.
- 1 On 28 March, 2018, the Minister for Revenue and Financial Services in Australia introduced the Corporations Amendment (Asia Region Funds Passport) Bill (the Bill). The Bill puts into place the Australian government’s commitment to the Asian Region Funds Passport’s Memorandum of Cooperation signed by Australia, Japan, South Korea, New Zealand and Thailand, which took effect on 20 June 2016. Additionally, on 25 and 26 April 2018 the ARFP Joint Committee held meetings in Australia
- 2 According to one PwC survey, 86 per cent of fund industry body respondents indicated that ARFP is important for the growth of their industry (https://www.pwc.com.au/industry/asset-management/assets/asia-region-funds-passport-nov10.pdf)
- 3 The expectation is that there will be more announcements on tax harmonisation in May 2018
- 4 Currently ve countries back the regime (Australia, New Zealand, Japan, South Korea and Thailand). Singapore removed itself from the scheme in 2015 due to, according to the media at the time, lack of commitment to resolve tax neutrality. Recent media reports suggest a possible change from this position by Singapore with Singapore, Philippines and Hong Kong attending the April 2018 meeting in Australia on ARFP. A piloting process is currently underway to test passporting arrangements will full implementation being positioned for early Q4 2018
- 5 The Memorandum of Understanding was implemented in late February by the Securities Commission Malaysia (SC), the Monetary Authority of Singapore (MAS), and the Securities and Exchange Commission of Thailand (SEC)
- 6 https://ec.europa.eu/info/publications/180312-proposal-investment-funds_en
- 7 Asia Regional Funds Passport, The Future of the Funds management industry in Asia, PwC
- 8 https://www.atkearney.com.au/ nancial-institutions/featured-article/-/asset_publisher/j8IucAqMqEhB/content/asia-region-funds-passport?_101_ INSTANCE_j8IucAqMqEhB_redirect=%2Financial-institutions
- 9 http://www.fundsglobalasia.com/december-2017/passport-have-passport-will-travel
- 10 Asia Regional Funds Passport, The Future of the Funds management industry in Asia, PwC
- 11 AMAC database
- 12 Ashley Alder, CEO of the Securities and Futures Commission
- 13 https://www.bbh.com/resource/blob/19176/107837042ea818ab20c9ea8fb7a8dc67/cross-border-2025--the-rise-of-hong-kong-pdf-data.pdf
- 14 The main ordinance is now enacted. The framework is similar to S-VACC but differs as it requires the custodian to have a trust licence and imposes oversight obligations. With little enthusiasm, we question whether at this stage the structure is addressing the market requirements and it seems that its success will depend on the following factors and benchmarking against that of Cayman Islands or BVI funds: (a) Setup cost; (b) Time to market (including regulatory authorisation/approval); (c) Tax treatment; (d) Regulatory approach to regulate private OFC; and (e) Investment flexibility for both public and private OFC
- 15 Asia Asset Management: Industry Trends, Outlook and Developments, PwC, November 2017
- 16 The Financial Service Board issued a draft Notice for NAV Calculation Valuations and Pricing for Collective Investment Scheme Portfolios. Additionally, a Review of BN 90: Proposed discussions on potential amendments was due to be held in the first quarter 2018
- 17 Proposal includes: Remove the number-based criterion to differentiate Public Funds, Exempt Funds and Qualified Investor Funds; create a regime for Exchange Traded Funds (ETFs); introduce liquidity risk management controls in open-ended Funds – particularly in Public Funds; address a number of discrete issues relating to Property Funds, including whether we should continue to prohibit Public Property Funds from being open- ended, and the use of the term REITs; create an internal Fund Manager model; and remove some anomalies and unintended consequences