A New Test May Help China’s Fickle Investors Stay the Course

(Bloomberg) -- Retail investors in China are notorious for churning -- rushing lemming-like in and out of the stock market. It’s a dangerous way of treating life savings, especially when a pandemic has limited earnings visibility.

China’s securities regulator hopes to change that with a more Western-style model, where investment advisers will be motivated to keep individuals in products for longer by linking fees to asset growth rather than sales commissions. The approach is being tried out in the $2.4 trillion mutual fund industry, which has been growing at a record pace: There have been inflows in excess of $110 billion since January, surpassing the record set for all of 2015.

The pilot, which began in October and was expanded this year, is part of an effort to reform China’s funds management landscape and promote transparent, long-term saving as the population ages. Over the past three years, regulators have cracked down on opaque shadow-banking products, brought more rigor to stock investing by introducing registration-based initial share sales and opened up to global fund houses from Vanguard Group to BlackRock Inc.

Under the trial, financial institutions will be able to buy and sell mutual funds directly on behalf of clients, without asking for their permission each time. Clients can see how their investments are performing online and will pay a fee that’s based on assets under management. That’s a model that mirrors the U.S. and Europe, where retail investors commonly relinquish the day-to-day management of stock funds to professionals.

“The biggest advantage is that this will enable advisers to truly represent a client’s interest by designing fund allocations that match their risk profile and adjusting the portfolio as their needs change,” said Lu Haiyang, chief executive officer of the fund distribution unit of Beijing-based investment group, Hongtai Aplus. By guiding long-term investments, the trial “can to some extent ease the chronic headache where mutual funds make money, and clients lose money.”

That’s a particular issue in China, which has a notoriously fickle retail investor base. A Morningstar Inc. report released earlier this month noted that investors “commonly treat equity fund launches like stock IPOs. They buy them, hold them for a few days or weeks, and sell them as soon as the funds have generated a certain return.”

Mao Huaiping, CEO of the wealth advisory unit of China Asset Management Co., said the sector is ripe for reform. His company runs the nation’s second-largest mutual fund firm and is part of the pilot.

“It’s still like 20 years ago,” Mao said. “People dive in once the market turns hot, without understanding the driving forces or valuation levels -- whether it was stocks back then, or mutual funds today.”

His division manages mutual fund investments for more than 10,000 clients. Last month, as markets soared and mom and pop investors rushed in, Mao kept his clients’ allocations stable, and shunned new products with no track record.

“People know Warren Buffett’s advice -- be fearful when others are greedy, and greedy when others are fearful, but that’s very difficult to do, especially for retail investors,” he said. “Now, as the investment adviser managing their accounts, we can do it for them.”

Win Trust

To be sure, not every investor is going to want to hand over the keys. But as a guide, about half of China’s mutual funds are still held by individual investors, compared with only 10% in the U.S.

Trial firms also require time and “sincerity” to win the trust of clients who are now paying them for their service, said Lu of Hongtai. “Fund advisory can only thrive in the long term when clients are happy with the design and user experience and can feel some added value.”

In total, 18 companies have been selected for the pilot. Only one, Ant Group, has tied up with a foreign firm -- Vanguard. The duo’s recent joint venture has rolled out a robo adviser as part of the pilot to target Ant’s 900 million users. The service attracted 200,000 clients in its first 100 days, netting around 2.2 billion yuan ($317 million).

Face-to-Face

It’s an impressive start, though rival Guolian Securities Co., also part of the trial, isn’t overly worried. Yin Hongwei, the company’s chief wealth officer, admits Vanguard’s joint venture has an “unparalleled edge” in fintech, but says nothing can replace face-to-face interactions when it comes to building clients’ trust.

Guolian has been waiting for a chance to “offer value-added services beyond being just a sales channel,” she said. “By charging clients asset-management fees rather than commissions, our interests are aligned.”

Guolian was accepted into the trial in February, along with six other securities brokerages. It rolled out its offering in April, and as of mid-August, over 15,300 clients had signed up, giving the firm around 1.96 billion yuan to manage.

Li Hao was one of those customers. The owner of a construction company in Wuxi, a city near Shanghai in eastern China, said he doesn’t have time to sort through the thousands of mutual funds on offer, especially not with his own business hurting because of the coronavirus.

When Guolian offered to do it for him for a fee of about 1%, he readily agreed, handing over an initial 300,000 yuan.

“I don’t need to pick the funds and I don’t need to buy or sell,” said Li. “I guess their performance will at least beat the average fund return.”

©2020 Bloomberg L.P.

With assistance from Bloomberg