Victoria, Australia: China High Net Worth Beneficiary
One of the outstanding questions in Australia when in regard to bilateral free trade agreements (such as CHAFTA), with funds passporting arrangements (such as the Asia Regional Funds Passport) and other mutual recognition arrangements is how they stand to benefit Australian businesses and create Australian jobs. State officials in Victoria must ask the same question regarding the Memorandum of Understanding signed last November designating Sydney as an RMB hub. Associated opportunities for New South Wales, as described in a recent publication by ANU’s Kathy Walsh* are much more forthright than are advantages for Victoria.
Victorian officials must meanwhile deal with the impact of similar considerations made by Australian Federal officials when overhauling Australia’s Significant Investor Visa programme earlier this year. Although prior to July 2015, a large proportion of investments by high net worth individuals seeking visas as Significant Investors (A$5mn or more) in Australia flowed mostly into property and “risk free” government bonds, Australian officials, in the interest of promoting diversified investment into more innovative industry as well as preventing already frothy Sydney and Melbourne property markets from overheating, changed the rules. In so doing, authorities implicitly altered incentives for Chinese high net worth individual investors, who comprised over 90% of SIV applicants (see Chart 1). The change in regulations appeared moreover to exercise the greatest impact upon Victoria, the state wherein the majority of Significant Investor Visa applications were filed in the year to 2015 (see Chart 2):
Chart 1: breakdown of Significant Investor Visa by top 5 source countries
Chart 2: Percentage of SIV expressions of interest by state
The new SIV guidelines stipulate compulsory investments into higher-risk assets such as Venture Capital (at least A$500,000) and small caps (at least A$1.5mn in small-cap and micro-cap managed funds).
Chart 3: New minimum investment requirements for SIV
Source: King & Wood Mallesons
At first, market participants welcomed the changes, anticipating a massive influx of capital into the riskier asset classes, such as to support their valuations. In comparison to these lofty expectations, the initial response of potential investors from overseas – the majority of these Chinese high net worth individuals – has been underwhelming.
Chinese investors prove more discriminating than we thought
Indeed, the drop in SIV applications demonstrate that what some foresaw as a “wall of cash” or “tidal wave of Chinese investment” appears to be more discriminating than authorities first reckoned.
Subsequent to the implementation of changes to the SIV regime in July, applications have dwindled to a trickle. Between July and November 2015, a reported 19 applications have been filed, which amount to a mere 6% of applications that might have been expected under the prior regime (averaging data between 2012 and 2015).
The state most affected by the decline, examining the distribution of applications prior to the change in regulation, is Victoria. Will poor demand under new SIV guidelines deal Victorian fund managers’ distribution a blow?
Admittedly, it is too early to tell whether Chinese investors have permanently lost interest in Significant Investor Visas as a means of channeling capital into Australia. High net worth individuals might still be weighing the implications of the regulatory changes to gauge whether their desire for Australian visas is worth exposure to riskier investments or, alternatively, in light of the slump in the Australian dollar versus the RMB to date, they may just be waiting for the right price.
In the short-term, small caps may suffer from a degree of disappointment compared to lofty expectations set by media and Australian equity market participants. Yet longer-term, even if the new SIV regime fails to recapture Chinese investor interest, it is still possible for alternative sources of Chinese capital to fill the gap left by SIV applicants.
Could QDII2 bail Victoria out of lackluster SIV appeal?
In October, China’s State Council announced that it was considering an experimental launch of its Qualified Domestic Individual Investor programme (“QDII2”) within the Shanghai Free Trade Zone. The long-awaited announcement represents one of many small steps toward capital account convertibility, moving toward permitting high net worth Chinese to invest directly in financial products overseas.
The scheme, initially foreseen to be rolled out to various Chinese free trade zones, appears to be more limited in scope than anticipated – to residents of the Shanghai FTZ at first. Again, in the short term, the limited scope of the scheme probably precludes massive outflows from China. However, the definition of high net worth (1mn yuan, worth roughly USD157,000 according to reports in Shanghai Securities Times) represents a higher proportion of wealthy Chinese than the AUD5mn floor for SIV’s. Moreover, if successful, there remains potential for expansion of the scheme to other free trade areas such as the Zhongguancun high-tech zone in Beijing and Wenzhou (both cities applied for inclusion in the scheme but were rejected) and eventually, to all of China.
Consequently, if demand previously demonstrated via the SIV programme for investments in Victoria has not fully faded, appetite for Australian assets (including into property, Australian government bonds and other sectors) might be sated by other means than investment by new residents. If so, the Victorian fund management sector might continue to attract Chinese investment. The individual investments might be smaller (less than the $5mn necessary to obtain a visa) but more plentiful in number.
The QDII2 scheme might also provide a complementary boost to SIV-related demand. The scheme could provide ultra-high net worth investors (with more than the A$5mn to invest in Australia) with means whereby to diversify their overall exposure to a greater extent than permitted by the investment quotas alone.
Diversification of Chinese savings a matter of time, Victoria’s share a matter of strategy
The fact remains that Chinese personal investable assets are massive, and they are growing. Reported as likely to reach CNY110trn by the end of 2015 and expected to grow by 13% per annum, according to a widely-cited report published in August by Industrial Bank Co Ltd and Boston Consulting Group. The same report estimates an annual rise of 11% per annum in the number of Chinese high net worth families. It is almost beyond dispute that as China gradually moves toward capital account convertibility, diversification of high net worth portfolios represents an enormous opportunity for asset managers world-wide.
Not only because the lion’s share of SIV capital has flowed into Victoria to date but also due to the prominence of the funds management industry within the region’s capital, both state government officials and market participants have cause to monitor closely the progress of QDII2, alongside other recently-initiated programmes such as the Qualified Domestic Investment Enterprise (QDIE) and Qualified Domestic Limited Partner (QDLP) programmes. The end goal remains, of course, that of capturing a share of the imminent demand for diversification of Chinese investors’ portfolio risk going forward.
** Catch Kathy Walsh at our upcoming RMB Thought Leadership Luncheon in Melbourne on 18 November