China Looking to Clean Up Private-Fund Industry

The State Council, China’s cabinet, is seeking to uproot improper practices in the growing private investment-fund industry to better protect investors and prevent hidden risks from increasing.

The State Council and China Securities Regulatory Commission (CSRC) on Wednesday issued draft rules aiming at cleaning up the industry. The public will have until Sept. 30 to submit opinions before the rules become final.

Private funds usually target wealthier individuals who can withstand more risk. In China, such funds are not allowed to sell directly to the public; instead, they can be sold only privately, and to no more than 200 companies or individuals. These private funds invest in a range of products, including securities, derivatives, unlisted companies and other assets.

However, some private funds have reportedly sold to the public without vetting investors’ individual risk profiles, and more investors have jumped into these products without being fully aware of the risks.

The new rules say private funds can be sold only to select and eligible investors, and the number of investors for any single fund should not exceed a specific limit to be capped by the regulators. Private funds cannot break up a fund in order to get around the limit and sell to investors more than what is allowed.

Fund managers and salespeople must assume the responsibility for fully disclosing the investment risks to investors, and private funds should be sold to investors in line with the investors’ risk tolerance, according to the new rules. Also, fund managers and custodians are also required to report to the Asset Management Association of China (AMAC), a self-regulatory organization, the basic operational information of the funds and the use of leverage.

Private funds in China have outperformed mutual funds during the first half of this year. Beijing CQ Capital Management Co. was the country’s best-performing private-fund firm in the first half this year, with an average return of its three best-performing products reaching 85.07%, much higher than 61.05% scored by runner-up Shiva Asset Management Co., according to financial data provider Wind. In comparison, the top-performing mutual fund, managed by E Fund Securities, achieved a return of 34.75% from January through June.

Regulators should guard against systemic risks associated with private funds, AMAC Chairman Hong Lei said earlier this month. He said fund managers should not aggregate money from different investors into pooled funds and should avoid overleveraging.

Contact reporter Dong Tongjian (tongjiandong@caixin.com)