New model for fund distribution in asia

Nothing hurts a fund manager more than having to return money to potential investors. Turning away clients is not only bad for business, it goes against all the instincts of the professional asset-gatherer. Yet the management team at the China Southern Fund Management Company could probably afford to be ­philosophical when it recently had to return more than (US)$2.5bn to unsuccessful applicants for its first QDII fund, which enables Chinese domestic investors to gain access to overseas stock markets. The fund raised its capped limit of $4bn within a single day. The story goes some way to illustrating the enormous potential offered by both China and other markets in Asia. We have become familiar with the ­stories of incredible ­economic growth, the gradual ­liberalisation of retail ­investment regulations and the ­burgeoning power of the region’s sovereign wealth funds. In such fertile conditions, it is no wonder the world’s ­leading asset managers are forming a not-so-orderly queue to capture their share of the expanding wallets of Asia’s investing classes. Acting as sub-advisers to funds such as China’s QDIIs (qualified domestic institutional investor) is one way of getting a foothold in the region. Another strategy is to structure offshore UCITS III funds, domiciled in Luxembourg or Dublin, that will appeal to local Asian investors. In some markets, that approach has already been a great success. According to research by ALFI (the Association of the Luxembourg Fund Industry), more than two-thirds of all funds authorised by the Securities and Futures Commission in Hong Kong are UCITS III funds, the vast majority of which are based in Luxembourg and Dublin. The growth challenge But the rush to capitalise on the enormous potential within Asia has come at a price. As a highly fragmented region in which each market has its own regulatory environment, tax regime, reporting requirements, trading conventions, ­customs and practices, there are no economies of scale and few opportunities to replicate operating models across multiple jurisdictions. Every time a manager enters a new market, it is with a clean sheet of paper. Add to this the fact that the largely European drive towards higher levels of automation of funds processing has never travelled further east, with faxes and paper instructions still predominant as the standard ­communications media, and it is not hard to see why the opportunities to prosper in the region can be severely dented by the costs and risks of manual processing. As trade volumes from Asia have exploded – Taiwan, for example, has recorded year-on-year increases in offshore investment outflows of 150 per cent – the processing and ­operational challenges also mount. A model that can ­handle 50 trades per day is unlikely to be able to handle a tenfold increase in volumes unless it is scaleable, robust and linked electronically to all parties in the trade-­processing chain. As managers see their volumes rising in Asia, they are all facing that same challenge, which leads them to ask a ­simple question: why are we in the processing business when our core competency is asset management? The second wave Of course, the question has been asked before in different circumstances, most obviously when asset managers ­started to outsource their investment operations to ­specialist providers. But the challenges presented by Asia are different: what managers need most is support with implementation of their distribution strategies. They want to roll out new products in new countries quickly, gaining ­critical competitive ­advantages with their speed to market. Historically, the structure of Asian distribution models has been fragmented and inefficient, largely because global money managers have not had the expertise to deal with the variety of issues within the region, such as:

• A manual processing environment;
• Different cultural approaches to the business;
• Language barriers;
• Time zones;
• Local service quality variations;
• Differing regulatory requirements;
• Cost of establishing discrete operating models;
• Sub-optimal trade and cash-flow channels;
• Multiple operating platforms; and
• Fragmented data provision.

Asia is therefore the testbed for what we would describe as the second wave of outsourcing. Global asset managers realise that, with rising volumes and increasing ­liberalisation, they must deploy an operating model that maximises their sales opportunities whilst minimising their exposure to operational risk and process failure. They need to allocate their resources as effectively as possible by implementing distribution strategies that deliver broad jurisdictional and product coverage, without the cost and management burden of a heavy infrastructure. To do this, they will have a sales and client management team on the ground and, wherever possible, will outsource much of the local administrative and operational functions to a third party. Using a local partner with specific market knowledge and contacts not only saves money, it also improves time-to-market for new product launches as legal and regulatory issues are addressed more rapidly. Building a global model For this type of arrangement to be effective, the distribution support model needs to be global in scope – offering the benefits of scale and ­standardisation – as well as focused on the intricacies and wrinkles of each local market. Deploying single-country ­distribution support solutions will negate their value, as managers will still be left with the ­significant challenge of aggregating disparate sources of data that may each require a high degree of manipulation before they can be usefully viewed by management, ­compliance, operational and client service teams. We believe a global operating model, which begins with the critical function of transfer agency, is vital for those managers who want to distribute funds across Asia. Not only does the global model provide the benefits of a single, consolidated data feed, but it also enables managers to interact with a variety of distribution channels. As Asian investors begin to exercise their knowledge and buying power, they will use various media for access to funds, with open architecture and the rise of fund platforms leading to a more complex trade order routing and processing chain. From our experience in Asia, we can tell that the era of distribution support outsourcing has arrived. Managers want to know how we can help them break into new ­markets. They no longer want to be in the business of building the systems, processes and infrastructure required to enter a market, and then maintaining all the necessary data on unitholders, their trades and their ­holdings. Instead, they expect to outsource all the ­underlying administrative work to third parties that can deliver the expertise, systems, scale and local presence to streamline their resource commitments. In essence, the outsourcing of distribution support should allow the manager to set a high-level outline of the objectives and requirements of the fund and deploy local or regional sales resources. They can then delegate many other tasks to their distribution support provider. The provider’s responsibilities can go much further than the transfer agency role, incorporating such functions as fee negotiations with local promoters, tax management, order processing and confirmation, corporate actions and administration, drafting of investment management ­agreements and prospectuses, liaison with the regulators and, ultimately, project management of product launches. Work in progress Challenging the status quo is never easy, but we believe there is a significant gap between what managers can achieve on their own and what they can do with the ­support of service providers that can deliver a genuinely global solution. The global/local model has to be the most effective means of closing that gap and tackling the Asian opportunity, where the potential for growth can only be properly realised if the underlying foundations are ­sufficiently robust. Getting that balance right is the key to delivering the real benefits behind a global architecture:

• Reduced cost from harmonised operational processes;
• Increased efficiency throughout the trade lifecycle;
• Reduced risk through automation and standardisation;
• Upgraded service quality resulting from consolidated data management; and
• Awareness of cultural nuances and local practices.

The construction of the optimal model is still a work in progress, and managers and their service providers are still feeling their way as they become more comfortable with the concept of distribution support outsourcing. But Asia provides the opportunity for both sides to work together on an exciting new development. And, for those that get it right, ­substantial rewards are clearly within their reach.

Simon Shapland