China

Essential rundown of the key fundamentals impacting investment decision-making for corporate treasurers in China, along with the specifics of the various investment instruments available.

Liquidity spotlight: China

Concise guide for corporate treasurers investing in China

Market scale and scope

  • China has the world’s second-largest stock exchange by market capitalisation and strong retail investor base with a high appetite for investment risk.
  • China is the world’s third-largest jurisdiction in terms of money market funds (MMFs) after the US and Europe.
  • At the end of 2021, the size of the MMF market was ¥5 trillion ($1.5 trillion) in terms of assets under management (AuM).
  • MMFs made up 37.3% of China’s mutual funds by AuM at the end of 2021 – down from 67% at the end of the first quarter of 2018.

Key stakeholders

  • The People’s Bank of China (PBoC) – the central bank with regulatory responsibilities for financial institutions.
  • The China Securities Regulatory Commission (CSRC) – the main regulator for China’s securities and futures industry.

Synopsis

China’s financial markets are less than 20 years old with the first MMF launched in 2003. The market has grown significantly with an Alibaba-linked fund being the world’s largest MMF at one point reaching $268bn in March 2018 before AUM fell back modestly as a consequence of regulation and fund manager action to reduce individual investor concentrations.

Retail investors make up approximately 60% of the domestic MMF investor base overall, with much of the growth attributable to the accessibility of funds via mobile technology. The exponential growth of MMFs combined with the high proportion of retail investors has prompted the CSRC and PBoC to reform regulation covering MMFs to improve transparency and protect investors, in particular placing limits on lower-quality assets and requiring greater levels of liquidity. The development of regulations is expected to extend towards interest rate and liquidity risk, and to apply new rules in relation to counterparty and credit risk.

As ever, an understanding of the local market and the risk profile of funds is essential for the corporate treasurer, particularly since there are further regulatory moves planned for 2022 to reduce systemic financial risks by encouraging diversification across both end investors and distribution channels.

Market overview

For multinational companies operating in China, a notable feature is the difficulty around repatriating cash. As it’s complicated and potentially costly for corporate treasurers to move cash offshore, having a treasury policy that accommodates the use of MMFs and understanding the domestic market for MMFs is all the more important. This is particularly important since MMFs run by domestic and international providers typically have very different risk profiles, with domestic providers being more return driven and retail centric.

MMFs comprised 37.3% of China’s mutual funds by AuM at the end of 2021, down from a high of 67% at the end of the first quarter of 2018. This reflects both an increased level of regulation, but also an increase in the overall size of the investment market, which authorities have been keen to support with preferential policies to encourage the development of the domestic mutual funds industry. This includes a tax exemption on dividends generated by funds, including MMFs. 

The domestic MMF industry is predominantly made up of prime market funds, which are almost entirely senior debt funds and based on the constant net asset value model. There are six funds that operate as variable net asset value, but these represent less than 1% of the market.

Many of China’s MMFs have internet-based distribution models and China is well ahead of other markets in its use of mobile and online payment platforms such as AliPay and social media platforms like WeChat as distribution channels. This has made investing in MMFs easily accessible to retail investors where demand has been high, influencing the risk profiles of domestic funds to reflect the retail markets’ focus on return. The higher proportion of retail investors can result in volatility in flows in and out of the fund. Consequently, the size of a fund does not necessarily reflect the stability of a fund with one large fund losing 15% of its AuM in a single week due to the herd mentality often associated with retail investors.
 

Diverging from international MMF norms, only a small proportion of China’s MMF industry is rated by a credit rating agency. Currently, Fitch is the only international rating agency to assign ratings to Chinese MMFs of which there are just three, with a combined AuM of ¥114bn as of April 2022. However, a MMF rating in China is unique and designed to specifically serve the needs of the domestic market, and the rating is denoted with a country-level suffix ‘AAAmmf (chn)’. 

Corporate treasurers will need to be aware of variances between the rating criteria of Chinese MMFs and international alternatives they may be more familiar with. For example, while Fitch’s rating criteria limits Chinese MMFs to 75 days weighted average maturity (WAM) versus the regulatory maximum of 120 days, it remains higher than the maximum 60 days WAM by which international alternatives are constrained.  

The market is quite concentrated with the top 10 fund managers accounting for some 47% of the industry by AuM at the end of 2021.

China has a broad market in terms of investment instruments. In addition to MMFs, there is a thriving interbank and exchange-traded repo market. There are also: agency bonds (which are policy bank bonds); central bank bonds; commercial paper issued by state-owned enterprises and by corporates; medium-term notes; time deposits; and standard certificates of deposit.

Country specifics

Portfolio characteristics
  • Settlement –T+1 day.
  • WAM, weighted average life (WAL) and weekly liquidity – In China, depending on investor concentration, regulation requires funds to maintain differing levels of risk metrics for the above as shown in the table below. The higher the investor concentration, the lower the regulatory WAM and WAL, and higher the weekly liquidity. Fitch AAA mmf(chn)-rated funds need to maintain a minimum of 20% weekly liquidity.
  • WAM – Compared to the WAM global norm of 60 days, Fitch AAA mmf(chn) funds run to a maximum WAM of 75 days.
  • Liquidity fees – Of up to 1% apply in China.
  • Overnight (o/n) liquidity – Funds must hold a minimum of 5% overnight, while Fitch AAA mmf(chn)-rated funds need to carry a minimum of 10% in o/n liquidity.
  • Management fees – Range from 25bps to 30bps.
  • Leverage – The regulator permits funds to be leveraged but sets a limit of 20%.

Credit ratings

  • Issuance from both banks and non-banks must carry a minimum AA+ rating (China local rating scale), however, regulation permits exposure to banks below AA+ with board approval and public disclosure. Therefore, funds could potentially assume more credit risk.

Charges

  • There are no exit charges applied on redemptions of MMFs.

Portfolio instruments

Fund comparison

Identifying the right fund manager

Corporate treasurers will need to consider whether or not their existing global policies can accommodate the risk characteristics of domestic Chinese funds and, if not, to what extent the policies may need to be extended. The extent to which the policies need to be more accommodative may also influence manager selection, since the risk profiles of funds run by international fund providers – which target institutional investors – are typically lower than those of domestic funds, which are geared to retail investors. Critical to manager selection is an understanding of the investment philosophy of a particular fund manager and how this translates into risk management.

Investors should consider:

  • How tight their own internal guidelines are compared to China’s regulation;
  • Whether they follow a rules-based risk management process;
  • Whether pre-trade and post-trade risk metrics are checked by systems and monitored by risk or compliance teams;
  • Whether the fund manager has an internal credit rating system and strong credit research resources;
  • Whether the fund carries an external rating, giving an additional layer of oversight.

Overall, it will be incumbent on corporate treasurers to apply sound due-diligence practices to manager selection, which should also consider operational risk, particularly given the relatively young nature of the market.

Market and regulatory developments

In line with the global trend towards tighter regulation of financial markets, the PBoC and the CSRC are proposing tougher rules for a class of MMFs referred to as ‘Important MMFs’ (defined as MMFs with more than ¥200bn in AuM, or with more than 50 million investors). These proposals would require funds to set aside a minimum 40% of management fees as a risk provision, up from the current 10%.
 

Custodians and distribution channels would need to set aside a minimum of 20% of their fees as a risk reserve.

According to Fitch, the added costs could lead fund providers to cap fund sizes and/or investor numbers, potentially leading to the introduction of new funds, to accommodate demand.

Environmental, social and governance (ESG)

ESG is currently not a significant focus among investors in domestic Chinese MMFs. However, from a bond market perspective the PBoC and CSRC are beginning to look at ESG issues, in the wake of China’s statement that it will be net carbon-neutral by 2060. Focus and activity in this space are therefore likely to increase and, as domestic investors’ sentiment towards ESG orientated solutions grows, so will the availability of solutions to meet demand.

Technology

While retail investors can take advantage of mobile investing and ‘one-click’ investments, the technology space is less appropriate for the corporate treasurer from a governance and controls perspective. The nature of the Chinese market and requirements around setting up joint ventures with entities in China have hindered the development of third-party platforms by established international providers. However, in most instances, fund managers have their own portals such as HSBC Jintrusts portal for institutional MMF investors. Similarly, domestic banks operate portals catering to banks and non-banking financial institutions operating locally, and there are a growing number of domestic third-party distribution-only portals available.

Gordon Rodrigues

CIO – liquidity, Asia-Pacific | HSBC Asset Management (Hong Kong) Ltd

Gordon Rodrigues is the Chief Investment Officer for the Liquidity Business in A-Pac. Prior to that he was the Head of Asian Rates, FX and Liquidity in the Asian Fixed Income team within HSBC Asset Management in Hong Kong. He has been working in the financial industry since 1992. Rodrigues joined HSBC Global Markets, India in 1994 as a Treasury Sales Specialist covering Corporate and Institutional Clients and traded Credit Products on the Fixed Income Trading Desk from 1998-2002. Gordon moved to HSBC Asset Management India in 2002 to set up the Fixed Income Investment Team and headed the team till 2007 before relocating to Hong Kong.

Prior to joining HSBC, Rodrigues worked as a Foreign Exchange & Fixed Income Dealer at Merwanjee Securities in Mumbai. Rodrigues holds a Master’s degree in Finance and a Bachelor’s degree in Electronics Engineering, both from the University of Mumbai (India).