Vanguard received its investment management (IM) WFOE licence in November last year and opened its Shanghai office in May. With an IM WFOE, foreign fund managers can launch China-focused onshore investment products targeting domestic high-net-worth and institutional investors.
Charles Lin, Vanguard’s Hong Kong-based managing director and country head of China, was coy about what specific product strategies it has for China, but he seemed to rule out the firm's passive strategies.
“I don’t think it’s going to be an ETF,” he said, adding that the product’s structure is not within the scope of the private fund licence.
Nonethless, he believes there are opportunities for low-cost products in China.
“The average mutual fund expense ratio in China is more than 1.3%, which is almost double the US mutual fund expense ratio,” he said.
However, mainly institutional investors in China are sensitive to fees. Generally speaking, the retail and high net worth investor base has not realised how important fees are to investments over time, he said.
“That’s why we also do investor education,” he said. The firm has been organising events in China and working with digital and traditional media.
Lin added that Vanguard is well-known as a giant ETF provider, but it also manages around $1.4trn in active products. ETFs assets are $700bn, with the rest of firm’s $4trn in assets managed through passive mutual funds.
In any case, the asset management giant is only at the beginning stages in China. Managers with an IM WFOE must first register with the Asset Management Association of China (AMAC) as a private securities fund manager and launch a product within six months.
Vanguard has not applied for a private fund licence, Lin said.
Asset managers planning to launch private funds first need to have staff and systems in place before applying to make sure they are able to meet the six month deadline for launching a product, he said, adding that the firm's Shanghai office has no investment professionals.
“In the long-run, we will definitely have investment management capabilities,” Lin said.
Five people in the Shanghai office cover marketing, finance and human resources. The firm is planning to hire more people this year, according to Lin, but he did not give targets.
Currently, China activities are aimed at investor education, branding and forging better relationships with regulators, Lin said.
“The WFOE is a good starting point to have our local people gain a better understanding of the market."
Lin, who travels between Hong Kong and China, added that the firm is also considering other fund options such as the qualified domestic limited partnership (QDLP) WFOE.
A QDLP WFOE allows a foreign asset manager to raise domestic capital from professional investors who want to invest in offshore products.
The main challenge for foreign asset managers is product distribution.
“Distribution in China will still be a hurdle for foreign players because it is dominated by local banks,” Lin said. “You need to partner with these banks or figure out how to do direct distribution.”
Having a successful partnership means having deep connections with the banks. However, forging a successful partnership may also entail paying high retrocession fees to distributors.
In the case of Vanguard, the firm has been talking to potential partners for many years, but is drawing the line at high retrocession fees "to avoid conflict of interest", according to Lin.
"On the average, firms pay 40%-60% of their management fee as retrocession in China. However, in Vanguard, we do not pay any sort of distribution fee in to any provider in a all markets that we operate in throughout the world. This enables us to keep costs low and act in the best interests of all of our investors."
At least a dozen other foreign asset managers have obtained IM WFOE licences in Shanghai, including Fidelity, UBS Asset Management, Invesco, Allianz Global Investors, Neuberger Berman, Aberdeen Asset Management and JP Morgan Asset Management.
Only Fidelity and UBS AM have taken the next step of obtaining a private fund management licence from the AMAC.
In May, Fidelity launched its China Bond No.1 Private Fund, which is the first fund product launched by a foreign firm in China. It is also planning to launch a second fund in China later this year.
UBS AM received its private fund licence in July and the timeline of the product launch will depend on client needs, Rene Buehlmann, Asia-Pacific head at UBS AM, told FSA in an earlier interview.
Blackrock intends to join Fidelity and UBS and is applying for a private fund management licence with the goal of launching funds for high-net-worth and institutional clients.