Custody experts from several big western brands talk to Nick Fitzpatrick about how the competitive landscape may develop as Chinese banks pursue market share. China’s custody banking sector is growing up alongside the asset management industry, and as Chinese domestic managers move beyond the mainland, particularly into Hong Kong to internationalise their businesses and broaden their expertise, both Chinese and foreign custodians have tried to pre-empt them with product offering.
Andrew Law, head of fund services at HSBC Securities Services in Hong Kong, says: “For the past five years there has definitely been a focus for custodians to develop capabilities that anticipate China’s domestic managers who are going out into the international market.”
But as China’s domestic asset managers play a greater role in international asset management, will they partner with the foreign custodians who are in possession of big western brands, or will they prefer their more familiar partners from Chinese soil?
There is a list of Chinese fund custodians with at least as many names on it as there are custody banks in Europe and North America. These include Industrial and Commercial Bank of China, China Merchants Bank, Bank of Beijing and Bank of China.
Hai Tong Asset Management, a China fund manager, awarded custody for its Haitong Global RMB Fixed Income Fund to Bank of China (Hong Kong). The fund is domiciled in Hong Kong and launched earlier this year. It invests renminbi, the mainland currency which it sources in Hong Kong, into renminbi assets globally. Offshore renminbi business, with Hong Kong as a hub, is likely to grow significantly. If it does, custodians will probably not be able to ignore it. But the renminbi business currently under development in Hong Kong favours mainland Chinese managers with subsidiaries in Hong Kong.
Law says: “It is only natural for large fund managers who had a fairly good book of business in China to go international, and Hong Kong - being a developed and well regulated fund management centre - would be their ideal first destination. This provides the opportunity for Chinese local custodians who set up office in Hong Kong to interact with Chinese fund managers and global players, and at the same time learn from international best practices and industry standards prevalent here.”­­
Michael Chan, head of business development at BNY Mellon Asset Servicing in Asia Pacific, says: “The border between China and Hong Kong is only a 20-minute drive so a Chinese investment manager coming out to Hong Kong wanting to use a Chinese bank is natural. It is no different from global investment managers in Europe and the US coming out to Asia and wanting to talk to somebody they’ve been doing business with in their home country.
“So in the beginning, I certainly don’t see any concerns about that practice whatsoever. [Over time] they’ll learn that there are other people providing the similar competitive services, whether it’s the global players or the domestic.”
Law says: “Chinese players would most often approach a name they are familiar with, at least initially. From our perspective, we promote our offerings and depth of experience in the market, which will help them understand us and what we can offer. It’s a question of building relationships and, most importantly, trust. We have seen a number of fund managers working with different players so I don’t think that being a global player is a disadvantage at this time.”
Chan adds: “Over the last couple of years Bank of China came out very openly saying it wants to be a global custodian. There were rumours that they were thinking of buying one of the European banks.
“During the global financial crisis, the Chinese banks had the capital to come out and buy different businesses. Over time, they’ll learn that profitability and what they’re good at are important, and that they need to focus on certain things.”
European and US custodians have already seen this happen, says Sam Lam, executive director, head of sales and relationship management, north Asia, JP Morgan Worldwide Securities Services. Some of the local banks are setting up international offices in Hong Kong. They want to promote and develop their global asset servicing capabilities and to broaden their networks.
Ultimately they want to become well-balanced global players across different services and move away from being just local custodians.
But the sophistication of service requirements may benefit the foreign global players.
Siu Chan Kwan, director, securities and fund services, Asia Pacific, Citi, says: “When we talk to potential customers we do not only focus on what we can do for them on the custody side. We can help with distribution, fund administration and a number of other value-added functions.
“In Hong Kong, it’s up to us to showcase our strengths and try to convince the Chinese fund managers that we would be the best service providers for them as they expand into Hong Kong.”
Lam adds: “Also, the strategies run by Chinese entities setting up asset management companies in Hong Kong are fairly advanced. They are looking at offshore structures, ETFs [exchange-traded funds], performance fees and long/short strategies. Some of these strategies require fairly unique and specialised servicing and that’s how, for the time being, we can still differentiate ourselves from some of the local banks.” Opening up China
But what about foreign providers looking at playing a greater role in the mainland China market? Will China open up to them more than it has already done?
HSBC was the first bank to receive a licence to set up a sub-custody and clearing operation in the mainland and it has been providing sub-custody and clearing services to clients there since 1992 when the market was first opened to foreign investors.
Asked to what extent the country’s sovereign wealth investors are accessible to the foreign custodians, Law, of HSBC, says: “It’s something all asset-servicing providers look at and some are already servicing those entities.
“These clients look to partner with asset servicing companies for their global assets - both internally and externally managed - and they require specialised reporting and data delivery.
“Their domestic custodians may not have the full range of these capabilities yet. HSBC look at this sector as another important client segment with a specific set of requirements to be met.”
Chan, of BNY Mellon, says: “China has opened up quite a bit the last several years. The most recent example is the regulator clearly permitting fund managers to do middle- and back-office outsourcing. Prior to that it was silent. They didn’t prohibit it but now it’s very clear that they will allow it and it’s clear that foreigners can play in this arena.”
But there is still some clarity needed, says Chan. “If you’re carrying out the back-office and middle-office functions, will that prevent you from doing global custody outbound?”
Asked if all this suggests that the Chinese authorities have come to realise the benefits of outsourcing in terms of helping fund managers gain efficiencies, standardisation and economies of scale, Chan says: “I think so. In addition to that, they’ve realised that they can learn from the service providers. If the market is not open and foreign firms are not active, then the locals won’t be able to learn as fast as if they could on their own." ©2011 funds global