Hong Kong’s ambition to become a leading global cross-border fund hub is well known. Last year, its status as a gateway to Mainland China was solidified by the launch of Mutual Recognition of Funds (MRF). The scheme, which introduced a fund passport between Hong Kong and Mainland China, allows for funds domiciled in each jurisdiction to be sold in the other. The MRF makes Hong Kong funds the only cross-border fund that can be sold directly into the mainland market.
An interesting element of Hong Kong’s journey to becoming a global fund center is its potential to disrupt the status quo in the cross-border landscape. At the moment, EU regulated UCITS funds are the preeminent cross-border fund product. At last count, UCITS funds are sold into nearly ninety countries (see map below) and historically, have been the main cross-border fund product sold into Hong Kong with approximately $70 billion in assets. However, Hong Kong’s growing ambition has led many in the industry to wonder what it would mean for UCITS funds.
Source: Lipper for Investment Managers (LIM), December 2013Global Distribution of UCITS Funds
When the MRF was first announced, there were many Europeans who thought that it was only a matter of time before UCITS was also granted access to the MRF passport. After all, the reasoning went, as the preeminent cross-border product, why wouldn’t it be allowed into China? Now, for reasons I’ve explored here, this does not seem a likely scenario.
That said, Ashley Alder, CEO of the Hong Kong Securities & Futures Commission (SFC), caused a bit of a stir when he raised the idea of mutual recognition with Europe. Unfortunately, for European proponents of UCITS, this isn’t the kind of mutual recognition that they had in mind.
Speaking at a Hong Kong Investment Funds Association luncheon, Ashley said (emphasis added):
"I should also say that we are now in talks about mutual recognition with other markets, including some in Europe. These markets have recognised that the growing significance of the Hong Kong asset management industry should lead to a new era of reciprocal recognition arrangements. These may well supplant the type of unilateral recognition arrangements which have been the norm to support one-way fund sales into Hong Kong.”
Ashley is not talking about providing UCITS access to the MRF, rather he is referring to Hong Kong funds accessing the European market. You see, UCITS became the dominant fund in Hong Kong because the SFC approved and authorized UCITS funds for sale in Hong Kong. However, this was never reciprocated by Europe. For a time, this agreement suited both parties. Hong Kong wasn’t a major fund hub and UCITS offered a ready-made solution for delivering investment funds to investors. However, times are changing and the status quo may no longer be sustainable.
With Hong Kong’s increased ambition, Ashley is indicating that the SFC may want to renegotiate the terms of the deal with Europe. Meaning, Hong Kong may insist on Europe opening its marketplace to Hong Kong funds; which would require the EU to recognize Hong Kong funds as “equivalent” to UCITS funds and be sold in Europe on the same terms. This would be a huge shift in European policy, which would, no doubt, be the subject of intense debate.
It is early days and we shouldn’t read too much into one speech; so we need to exercise caution when thinking about the implications of mutual recognition between Hong Kong and Europe. This by no means indicates that Hong Kong is going to all of a sudden pull the rug out from under UCITS and deny them access to the market. It does, however, signal that Hong Kong is serious about becoming a global fund hub. European policymakers and UCITS asset managers alike would be wise to take notice.
Sean Tuffy is head of regulatory intelligence at Brown Brothers Harriman, based in Dublin, Ireland, and also authors a blog on global fund management regulation. Delegates from BBH will be attending FundForum International next week.
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