International investing drives Taiwan’s growth

The implementation of the ‘master agent’ regime in Taiwan in 2006 has significantly boosted sales of offshore funds in the island nation, and has made competition even fiercer in the dynamic Taiwanese mutual fund industry, which has more than $150bn in total assets under management. The new system, which favours foreign fund firms, has created substantial challenges for domestic investment trust companies, which had to devise new strategies to defend their market share.

In the past, offshore funds – products registered and investing overseas and foreign currency denominated – were available to Taiwanese investors as a form of foreign securities approved by the supervisory authority for consultation and recommendation by securities investment consulting enterprises (SICE). They were passively distributed to investors through banks or securities companies under separate distribution arrangements.

Under the new regime, managers of overseas funds which want to distribute in Taiwan must appoint a local master agent, which is made responsible for the registration of offshore funds and the appointment of sub-distributors, such as banks, securities brokers, securities investment trust enterprises (SITE) or SICE, which actively promote, advertise and sell offshore products.

Foreign firms can benefit from broader sales channels without having to incur huge costs to set up their own office on the island, and can often afford to embark on expensive marketing campaigns to attract assets.

Currently, offshore funds outstrip those registered in Taiwan, which are New Taiwanese (NT) dollars denominated and can invest both in the domestic market and overseas – both in terms of number and assets under management (see chart below).

In a bid to profit from the growing demand for overseas investments, both foreign investment companies and domestic fund companies, which enjoy the benefits of strong distribution networks, have jumped on the master agent bandwagon. Currently in Taiwan there are 41 master agents selling 73 offshore fund brands, according to Sitca, the national mutual fund association.

A delicate balance

The decision for a domestic fund house to become a master agent for one or more managers of offshore funds inevitably entails striking a delicate balance of priorities between distributing its own fund range versus third-parties.

Being able to add offshore funds to a domestic product range enables a firm to boost sales through banks, by far the dominant distribution channel for mutual funds. More than 80 per cent of offshore funds are distributed by the banks, known to push offshore funds due to much higher front-end fees than onshore funds.

The banks naturally claim offshore funds perform better than their onshore counterparts. And foreign fund houses are more appealing to investors, who consider them more professional than the Taiwanese.

This is why domestic investment trust companies embarked on a war against foreign players, trying to strengthen internal fund ranges, diversifying channels of distribution, or looking to strike advisory relationships with foreign players.

Polaris is currently in the process of establishing a “holistic cooperation” with selected foreign asset managers, which can provide advisory mandates or support research and product development.

“I don’t think it is appropriate and suitable for Polaris to have its own international fund management desk. It is time for us to think about some strategy migration,” says Julian Liu, president and CEO at the firm, acknowledging the number of offshore funds has swollen to more than 1,000 in just four years versus 530 onshore.

“We are seriously looking into selecting one or two long- term partners, who perhaps do not have a big exposure or presence in Taiwan,” says Mr Liu, believed to be in discussions with Wells Fargo and Russell Investments. Russell funds are already being already distributed by Polaris Securities, which has been their master agent for the past two years.

Starting from the principle that “there is no need to raise a cow,” but it makes more sense to “just distribute the milk,” Mr Liu plans to strengthen the firm’s international fund of funds offering, both in equity and fixed income.

“We don’t see local domiciled fund houses having the economic scale to manage global fixed income and equity securities. Our fund of funds platform will be our vehicle to compete against big brands and master agents, but at the same time it will also make us partner of those global brands, because we buy third-party funds too,” he says.

Leveraging on a track-record established in the exchange traded fund (ETF) space – Polaris is the fifth largest ETF provider in Asia Pacific – ETFs will constitute a relevant element of the fund of funds vehicles in addition to active funds. Co-branding will be the appropriate solution to market active offshore funds, whereas ETFs will be branded Polaris.

Ashwin Mehta, ING Securities

Taiwanese providers also aim to embrace new sales channels. Currently 80 per cent of the fund house’s active products, which represent 60 per cent of total assets, are distributed through banks. The remainder is distributed equally through direct sales agents, and third-party distribution channels.

“We need to find other opportunities. Banks have many choices and if two funds have the same performance, the foreign brand gives more incentive and you lose. You need to compete fiercely with those global brands,” says Mr Liu.

Independent financial advisers (IFAs) are expected to grow hugely in Taiwan and Polaris recently set up a fund education centre to engage with retail investors and educate them about using regular saving plans and asset allocation.

“We are preparing the ground for the future, step by step,” says Mr Liu, emphasising the importance of not creating any conflict of interest with the banks by targeting the same clients. The strategy must be implemented “very cautiously and in a very conservative way,” he adds.

Mark Ko, CEO at PCA Securities Investment Trust, the asset-management arm of the UK’s Prudential firm in Taiwan, is also trying to find ways to address concerns for the onshore fund management business.

Unlike other foreign fund houses, such as JP Morgan, Fidelity or Franklin Templeton, which have the largest part of their assets in offshore funds, PCA Securities Investment Trust has been focusing on building its onshore business, which started with the acquisition of a local fund house in 2000. Recently the firm started its offshore business by becoming the master agent for some offshore products managed by two of the group’s companies, M&G and Prudential.

Although PCA is one of the top ten fund managers in Taiwan, it is looking to increase its small 1 per cent share in offshore funds.

Higher fees

“Our business is very much onshore and this is why I am very concerned,” says Mr Ko. “Banks will say they sell offshore mutual funds because they generate higher performance, but in fact it is because of the higher fees.” PCA applied to the regulator to raise its front-end fees to make them aligned to offshore funds, explains Mr Ko. An onshore equity fund generally charges a front-end fee of 1.5 to 2 per cent, versus 3 to 3.5 per cent for an offshore equity fund.

However, once the firm got the regulator’s approval, it has been difficult to convince the banks to implement the changes, as banks are reluctant to explain to investors the different treatment between onshore funds.

The top 10 fund houses only rely on banking distribution. The purely domestic fund houses, which have direct sales or distribute through their own securities houses, are not so concerned about this issue, says Mr Ko.

Unlike the money flows into offshore funds, which are diluted over time, the assets raised in onshore funds are heavily concentrated in the initial public offering (IPO) period and are mostly driven by higher custodian fees banks generate from selling the funds. As there are only a few custodian banks in Taiwan able to have a strong role in distribution, all fund managers rely on the same institutions to sell their funds during the IPO. This leads the banks to switch quickly from one IPO to another.

Domestic asset managers aim at maximising sales during the IPO period, because after this period banks focus on the more remunerative offshore funds, says Mr Ko. “This is why onshore funds are in a very difficult position right now. In Taiwan none of the onshore fund houses can just rely on banking distribution.”

The distribution of PCA’s mutual funds is equally split between insurance agents, which sell investment linked products (ILP) having mutual funds as underlying, banks and direct sales. “The best distribution strategy is a mix of all the channels, because each one has its pros and cons,” says Mr Ko. While net revenues for direct sales are very high, because sales people are paid on commission only, the total cost is higher. Total profit for ILPs is the lowest, due to the big rebate imposed on products, but the money is sticky, unlike banking distribution with its high turnover of funds.

The insurance angle

Fuh Hwa Securities Investment Trust, the top fund manager for onshore funds in Taiwan, running $5bn, is relying on the insurance channel. “The banking channel is the most important for us today but the rising star of the channels will be the insurance companies,” says Bond Yang, President at Fuh Hwa Securities Investment Trust.

Then the firm can fall back on sister firm MassMutual Mercuries Life and its 10,000 agents to distribute insurance policies linked to mutual funds.

Although distribution through intermediaries has risen recently to 20 per cent of its total assets, the firm heavily relies on a team of 80 sales people, the largest in Taiwan, to sell directly to institutions and private investors.

Unlike bank advisers, whose commission is linked to the funds’ front end fees, direct sales agents share a part of the fund’s management fees, which helps mitigate the product push approach and mutual fund turnover, says Mr Yang.

Despite all the challenges linked to selling onshore products, good performance and product design remain the only two factors necessary for selling to banks, believes Mr Yang. Assets gathered for some onshore products, such as the global short-term fund which pulled in NT20bn ($620m) in less than one year, or the recent Greater China fund, which picked up NT1bn mainly from banks, have proved the point.

Fuh Hwa has terminated a master agent contract with Capital International, citing poor sales mainly due to performance issues. Distribution agreements with other offshore firms are now unlikely. The firm is focusing on developing onshore funds, which increasingly invest overseas to meet demand for international products.

Currently 30 per cent of the firm’s assets are invested overseas, in line with the general trend in the Taiwanese industry, which has seen a rapid growth of domestic products investing abroad. These represent 27 per cent of onshore funds assets, up from 7 per cent in 2005. Over the past year, 98 per cent of the assets gathered by new onshore funds were funds investing overseas.

Unlike other competitors, Mr Yang does not believe there is need to strike any advisory relationships with foreign firms. “We analyse the market ourselves, we have got 100 analysts in our firm, the biggest team in foreign equity and the Greater China team in Taiwan,” he says.

“Global players are just index tracking and they focus on the biggest companies, but we are Chinese, we visit the companies in China, from our subsidiary in Hong Kong and we focus on the small and medium companies, which can give much higher returns.” Mr Yang adds that they are soon going to launch another balanced emerging market fund.

A diversified mix

The distribution strategy implemented by ING Securities Investment & Trust, established in Taiwan 12 years ago, is shaped by a more diversified mix of businesses. This includes local currency denominated funds investing in the Taiwan market and onshore funds based on model portfolios managed by ING offshore entities.

“Taking advantage of our presence across the world, we get model portfolios and advice from our offshore entities and we implement them in local structures. We have a big range of such products which we have been introducing over the past four to five years,” says CEO Ashwin Mehta.

Moreover, the firm represents the ING label offshore led funds. “Investors may want to diversify currencies, while still wanting to have the same fundamental exposure and being able to offer both the onshore and offshore version does put us at good advantage,” he says.

ING Securities Investment & Trust is also the master agent for two other fund houses, Janus and Pioneer Investments, and the sales agent for some of the funds managed by UBS Wealth Management.

A master agent is responsible for carrying out due diligence on sub-distributors of the offshore products and generally enjoys higher profit margins. The sales agent, on the other side is just one of the many distributors. “I guess the master agent would be like the main dealership of a car in a country, while as a sales agent you are just running a couple of shops,” explains Mr Mehta.

A gradual process

Credibility with distributors has been built over long-term performance of domestic fund range as nothing really replaces the presence of local fund managers who speak the same language and have built reputation over time, says Mr Mehta.

While the relationship with ING offshore entities is permanent, third-party labels need to be looked at as a medium to long-term relationship, he says. “Taking a fund house and getting it off the ground takes time, it is not something that can be done overnight.”

Performance and reputation are the key selling factors in the market, and they were the principal reasons for selecting the offshore companies to distribute, adds Mr Mehta.

“The growth of offshore funds has been very demand driven, I don’t know whether the fee structure has been a big contributor to it,” questions Mr Mehta. “There are differences, but the fees are fairly competitive for both equity onshore and offshore.”

Although regulatory requirements and processes do increase workload in terms of what is required in terms of managing onshore funds, offshore products also need to meet certain conditions before they are sold in Taiwan. For example the fund needs to have at least one year track record before it can be registered, so it may be difficult to launch a product which is momentum based, where the time to market is important, says Mr Mehta. Also, not more than 70 per cent of the offshore funds’ assets can be raised in Taiwan.

Securities investment consulting enterprises have also joined the fray and many have become master agents for offshore companies. One of these is Marbo International SICE, which has recently become the master agent for T Rowe Price funds. Marbo is looking to leverage on its group companies, which include an internet company and publishing house, to actively promote and build the brand of the American firm in Taiwan.

The consulting firm already distributes more than 400 offshore funds, acting as a broker in the mutual fund industry, as mutual fund’s front end fees are discounted by 70 per cent compared to the banks.

“Now our role has changed and we are looking to work with the banks, as we want to focus on our main business, which is introducing T Rowe Price funds in Taiwan,” says Gary Chu, CFA at Marbo International. A due diligence process on the banks involves understanding their sales ability and estimating the volume of offshore funds a bank is capable of selling, he says.

Before signing a master agent contract, both parties carry out rigorous due diligence on each other. The offshore manager wants to assess the promotion capability of the master agent, and the master agent wants to be sure of the reputation and investment philosophy of the firm, also because the master agent becomes the entity legally responsible to the regulator for the offshore funds.

Some consulting companies are master agents for different offshore brands, but Marbo’s plan is to focus all its resources on the promotion of the American firm. “It is not easy for newcomers to make money in Taiwan, and they tend to sign master agent agreements with entities which can focus on developing their business in Taiwan,” says Mr Chu.