Serious differences are emerging between Hong Kong's markets watchdog and hedge fund managers queuing up to have their products authorised for retail sale.
After winning plaudits for breaking new ground in international financial markets by allowing hedge funds to be offered to the public, the Securities and Futures Commission is now being criticised for putting obstacles in the way of new players.
Disgruntled managers are preparing to put their grievances in front of the Commission after behind-the-scenes meetings with top officials have failed to break the logjam.
The campaign for change is expected to be coordinated by the Alternative Investment Managers Association, rather than the Hong Kong Investment Funds Association.
Frustrated fund managers, who have constructed funds which they believed would be inside the guidelines issued by the SFC last year, now point out that only five managers have had products approved - ten months on.
These have come from local players JF Funds, with two funds, while HSBC Asset Managers has launched a single fund of hedge funds.
The latest additions, approved in March, were from Invesco and the Permal group.
While no formal documents outlining the complaints of the funds has yet emerged from AIMA or its advisers, insiders reckon that the list will cover several pages. Top item is likely to be the interpretation of the rules on fund of hedge fund products, which were expected to spearhead the retail campaign.
During the consultation process, which led up to the eventual agreement to authorise hedge funds for retail sales in Hong Kong, funds of hedge funds were presented as the low-risk alternative to single-strategy products. To reflect the differential, entry levels of the two classes were pitched at different amounts; funds of hedge funds have a minimum US$10,000 subscription limit, while single-strategy hedge funds have a US$50,000 threshold.
At the time the guidelines were introduced, the industry expected that the simple difference in entry level would provide the safeguards that the SFC sought. Now, say critics, funds of hedge funds are being subject to the stricter criteria that apply to single-strategy products.
"With the exception of the difference in minimum investments,
the SFC has made virtually no differential between requirements
for single-strategy hedge funds and funds of hedge funds,"
complained one manager.
" The funds of funds have to meet the same high levels of compliance as single-strategy funds, and this is preventing many of them from achieving the authorisation."
The industry agrees that the SFC had a duty to be watchful. The authorisation of retail funds is still seen as a bold move, and one that the rest of the world is watching with interest.
Yet, goes the complaint, the present interpretation of rules on funds of hedge funds threatens to stifle their development. When the green light was given for retail hedge funds last year it had been expected that very quickly there would be up to a score of choices for investors, rather than a handful.
Another major sticking-point is the insistence that fund of hedge funds managers have to meet the same standards of experience and manpower backup as single-strategy funds. The SFC is anxious that a senior departure will not jeopardise, or substantially alter, the strategy of a fund.
"They (the SFC) very reasonably have concerns regarding single-strategy funds," admitted one manager. "As soon as you get a change it makes it difficult to continue the management. However, if you are running a fund of hedge funds, a product diversified among 15 to 50 different funds to give lower risks, you don't have to worry so much about the overseeing manager of those other managers walking."
Outsourcing by one fund to a more established management group with the required five years of experience of running the same type of funds should also be a simple process, but has proved to be another stumbling block, claim critics.
"If you outsource management, which is what a number of long-only funds do, you are likely to find that you have to show that you have your own five years experience in management - so what's the point of outsourcing? If you don't have the five years, you fail the test of being authorised," explained another player.
Domicile is another big fence which many fund managers have found they can't jump. If their proposed fund advisor is domiciled in a jurisdiction such as Bermuda or the Cayman Islands, which the SFC regards as not being an Acceptable Inspection Regime (AIR), authorisation becomes a big problem.
"Probably 70 per cent of all hedge funds in existence will have no chance of qualifying under the SFC guidelines, because the ultimate fund advisor will be in a non-acceptable jurisdiction," estimated one fund administrator.
This basically limits potential advisors to those who are regulated by the Securities and Exchange Commission in the US, the UK's Financial Services Agency and the Commission des Opérations de Bourse in Paris.
"Refusing to allow established management groups that have a strong presence in the local retail market to use the advisors of their choice, is not treating them like grown-ups," complained one frustrated manager.
Instead, it suggests that the local entity be made responsible for the funds' integrity, with any transgressions attracting suitable punishment.
Outsiders might find the apparent obstacles to authorisation of retail hedge funds now emerging in Hong Kong surprising, given the long and detailed consultation period that preceded the decision to go ahead.
"Part of the problem is that the SFC has taken it upon itself to adopt a much more stringent approach than the words in the guidelines would imply," explained an international advisor, who also admitted that the industry may not have fully understood all the implications of the rules.
The SFC appears genuinely surprised at the criticism it now faces, and the possibility of any misunderstanding of its rules.
Said an SFC spokesperson, "The industry knows very well that the commission has been trying its best to raise transparency and explain our regulatory philosophy and arguments.
"We have given lectures, hosted seminars, had one-on-one meetings. It is possible that funds might not get approval, or not as quickly as they would like, but it is not a question of being slow in processing, but in the general ability of funds to comply with requirements."
The reply from industry insiders is that more flexibility is needed if retail hedge funds are to take off in Hong Kong. Whatever the arguments, retail investors hoping to have had a chance to hedge their investments, find themselves with a very limited range of options.