Today I gave a speech and conducted an industry expert review at the Monaco Fund Forum International 2011 on the “UCITS vs. Asia Fund Passport” issue, with the general manager of Alfi, Camille Thommes.

My senior research analyst Lise Carpenter walked us through the UCITS data and main challenges, followed by an overview of Alfi’s approach and strategy.

We then continued with an in-depth discussion around the questions from the audience, ranging from specific country details in Asia such as China, HK, Singapore or Australia, to the opportunities and challenges for UCITS in Europe or Latin America. Another main challenge and topic of discussion was our concept of multi-convergence for the industry (trad vs alt; east vs west and inst’l vs retail) and how it could impact the UCITS brand.

Below is a short research piece on “UCITS vs. Asia Fund Passport”, jointly written with Bryan Liu, my Hong Kong-based Senior Research Analyst.

UCITS vs. Asia Fund Passport

Introduced as a fund passport in Europe 25 years ago, the “Undertakings for Collective Investments in Transferable Securities”, commonly called UCITS, have grown from a European initiative into a powerful global brand with $8 trillion in total assets: $4.8 trillion in local UCITS in Europe and $3.2 trillion in cross-border UCITS worldwide .

The success of UCITS, especially in recent years, is highlighted by the reactions to it from around the world. Far from being sold only across borders in Europe, as originally intended, UCITS are also a major component of mutual fund-type investment products distributed in Asia, Latin America, Middle East and elsewhere – in Asia alone, UCITS assets exceed $500 billion across the region.

As of July 2011, there are nearly 7,000 UCITS funds and share classes registered for sale across Asia, the majority of them sold in three cross-border fund hubs: Hong Kong, Taiwan, and Singapore. There are a few restrictions on UCITS in each of them, but in general the vehicle is accepted by local authorities, distributors and investors.

• Taiwan, for instance, does not approve UCITS products using derivatives, and sometimes delays registration in response to the domestic fund market environment.

• Hong Kong regulators have recently added the requirement of investor characterizations prior to the sale of any product that uses derivatives.

On the other end of the spectrum, some Asia-Pacific markets including China, India, Indonesia, and Australia do not recognize UCITS.

The rest of Asia sits somewhere in between: Korean regulators in 2007 introduced tax disadvantages to offshore funds and favored locally domiciled funds investing overseas ; UCITS registration in Japan is slow and expensive with immense local paperwork, leading international managers to work with domestic distributors via FoFs platforms; in Malaysia and Thailand, UCITS are required to be wrapped within locally registered investment vehicles.

The Asia Fund Passport

Of late, Asia is exploring alternative ways for cross-border fund distribution, motivated by a variety of reasons.

Since the global financial crisis there have been numerous discussions among Asian fund industry participants and regulators about the possibility and the need for a regional “Asia Passport”, both as a defensive response to scandals with less-regulated, structured products like the “minibonds” and “accumulators” in markets like Hong Kong, and to competitively position the region and attract local revenues and talent.

The government in Hong Kong talks about the “Hong Kong Advantage” of being an international hub as well as a local gateway into China, and it being important for the market to have a local (and possibly regional) passport.

The Financial Services Council (FSC) in Australia stated “that the creation of an Asia Region Funds Passport presents a unique opportunity to facilitate cross-border investment within the region”, adding that “the region clearly is signaling that it is ready to embrace this exciting concept”.

The latest development and proposal is to create an “Asean Passport” for cross-border mutual fund products among members of the Association of Southeast Asian Nations (Asean) in 2012.

Given the very fragmented and compartmentalized state of mutual fund markets in Asia, and the lack of a supranational rule-making body similar to the European Union in the region, a pan-Asia fund passport is not likely to become a reality in the foreseeable future.

However, a limited passport focusing on small groups of Asian markets such as the proposed “Asean Passport” could be implemented in coming years.

Particularly interesting is the prospect of a “Greater China Passport” between Hong Kong and China that could potentially replace the mainland’s qualified domestic institutional investor (QDII) program and encourage more overseas investment for Chinese investors.

With a growing number of Chinese asset managers setting up subsidiaries in Hong Kong, and concurrent explosive growth for the offshore RMB market (for example, HSBC (Hong Kong) gathered $0.5 billion in a Cayman Island-based RMB bond fund ), a “Greater China Passport” could strengthen and accelerate Hong Kong as a gateway into China and as a local fund domicile center away from its longstanding competition with Singapore as an Asia hub.

Local, regional, or global, the issue of fund passporting remains high on the agenda of industry experts.