ONPOINT / A legal update from Dechert's Financial Services Group
China Proposes Merger of QFII and RQFII Programs
China Proposes Merger of QFII and RQFII Programs
May 2019 / Written by Dechert's Financial Services Group
The China Securities Regulatory Commission (CSRC) earlier this year invited public comments on a new consolidated regime under draft regulations1 (Draft Regulations) for Qualified Foreign Institutional Investors (QFIIs) and Renminbi Qualified Foreign Institutional Investors (RQFIIs). If adopted, the proposed regime would: consolidate the existing QFII and RQFII programs under a single regime; lower thresholds for overseas applicants; and provide a wider scope of permitted investments than currently allowed. Foreign investors would be provided with more convenient access to China and additional flexibility in terms of investment options.
Current QFII and RQFII Programs
The QFII and RQFII programs were established in 2002 and 2011, respectively, to allow access to Chinese securities using either Renminbi (RMB) or a foreign currency. Both programs are generally subject to similar investment restrictions.
The QFII program has allowed QFIIs to invest in companies that are publicly listed on the onshore stock and bond markets in mainland China and traded in RMB. For an asset manager to qualify as a QFII, it must meet the criteria set by the CSRC (e.g. at least two years' management experience, management of no less than US$500 million over the past year). Further, an asset manager must prove that its financial stability and credit management are in order and that it has maintained a clean regulatory record for the past three years.
The RQFII program is a modified version of the QFII program, as it allows foreign investment in the mainland market via offshore RMB accounts2. The RQFII program was initially targeted at Hong Kong subsidiaries of mainland Chinese financial institutions, but has since expanded to financial institutions in 19 countries and regions. As at the end of 2018, the aggregate quota of US$101.1 billion had been granted to 309 QFIIs while the aggregate quota of RMB646.7 billion had been granted to 233 RQFIIs.
Proposed Unified Regime under the Draft Regulations
Unifying the Two Programs
Currently, applications to be a QFII or a RQFII are made separately. Under the proposed unified program, only one application would be required for the status of "Qualified Investor". As the application process would be simplified and the review process streamlined, the time required will be shortened to 20 days for each of the application to the CSRC for the Qualified Investor status and the application to the State Administration of Foreign Exchange (SAFE) for investment quota.
1 The proposed draft regulations are: (a) the Measures for the Administration of Domestic Securities and Futures Investment by Qualified Foreign Institutional Investors and RMB Qualified Foreign Institutional Investors ; and (b) the Provisions on Issues Concerning the Implementation of the Measures for the Administration of Domestic Securities and Futures Investment by Qualified Foreign Institutional Investors and RMB Qualified Foreign Institutional Investors .
2 In contrast, the QFII invests in its "home currency" (i.e., a major currency other than RMB).
Existing QFII and RQFII holders would become Qualified Investors once the proposed unified program is implemented. Further, in jurisdictions where there is currently an approved RQFII quota, an existing QFII may also make investments via offshore RMB accounts. However, in jurisdictions without an approved RQFII quota, existing QFIIs and newly approved Qualified Investors may invest only with funds in foreign currencies.
Relaxing Qualification Requirements
The proposed qualification requirements would remove the quantitative eligibility requirements of the QFII program (i.e. assets under management (AUM) of at least US$500 million during the past year). However, the unified regime would retain the qualitative requirements (e.g. financial stability, sound credit status, internal management systems, clean compliance record during the past three years).
Expanding the Scope of Investment
A highlight of the Draft Regulations is the proposed expansion of the scope of investment for a Qualified Investor beyond the current QFII and RQFII scope to include the following types of investment assets:
i. Stocks quoted on the National Equities Exchange and Quotations market (NEEQ, or the New Third Board (i.e., China's OTC market));
ii. Asset-backed securities;
iii. Depository receipts;
iv. Bond repurchase agreements;
v. Financial futures;
vi. Commodity futures; and
The specific types of permitted investment products listed in (iv) through (vii) above would be submitted by the relevant trading venues to the CSRC for approval and published thereafter.
Furthermore, Qualified Investors would be permitted to participate in: (a) margin trading and securities lending on stock exchanges, which allows participants to borrow onshore for such mainland Chinese investments, as opposed to restructuring offshore assets to meet capital requirements; and (b) private securities investment funds, provided that the investment strategy conforms to the scope of permissible assets listed in (i) through (vii) above.
Optimizing Management of Custodians
The Draft Regulations confirm the present position whereby the QFII custodian qualification has shifted from an approval-based system to a registration-based system. The limit on the number of custodians that may be appointed by a QFII also would be removed.
Enhancing Ongoing Supervision
The proposed unified regime seeks to improve QFII account management by seeking clarification of asset ownership. The client assets of a Qualified Investor belong to the client and are to be segregated from the Qualified Investor and the PRC custodian. Where a securities account is named as "Qualified Investor + Client
Fund", the Qualified Investor must separately open sub-accounts thereunder for each separate client, rather than establish a co-mingled account, and must identify the relevant client. Information on the relevant clients would be reported via the custodians on a quarterly basis.
The ongoing monitoring and supervision mechanisms would also be enhanced to oversee foreign investment activities into China products. Additional reporting and disclosure requirements would be introduced under the Draft Regulations, including requiring: (a) custodians, securities companies and futures companies to report any abnormal and illegal trading activities by a Qualified Investor to the CSRC, the People's Bank of China (PBOC) and SAFE; and (b) Qualified Investors to periodically disclose information as to offshore hedging positions related to onshore transactions. Additionally, clarifications are proposed for the corresponding regulatory measures and administrative penalties related to violations of the relevant laws and regulations.
The unified program was proposed by the CSRC with a view to promoting liberalization of China's capital markets. Particularly, with the expanded scope of permitted investments, it is expected that if the proposals are adopted, foreign investments through Qualified Investors would be significantly increased, thereby achieving the purpose of channeling more long-term foreign capital to mainland China.
The table below sets out key differences between the current QFII and RQFII programs and the proposed unified regime.
QFII AND RQFII PROGRAMS
PROPOSED UNIFIED REGIME
Separate QFII and RQFII license obtained from the CSRC
QFII: CSRC should complete review within 20 business days after receipt of all required application documents
RQFII: CSRC should complete review within 60 business days after receipt of all required application documents
(Note: In practice, the process has taken up to six months for both types of application.)
Separate QFII and RQFII investment quota obtained from SAFE
QFII: Decision within 20 business days after receipt of all required application documents
RQFII: Decision within 60 business days after receipt of all required application documents
(Note: In practice, the process has taken up to three months for each application.)
Single application submitted to the CSRC for the status of Qualified Investor
Decision within 20 business days after formal acceptance of application
Application submitted to SAFE for investment quota
Decision within 20 business days after receipt of all required application documents
QFII: Any currency, except RMB RQFII: RMB
Existing QFII from a foreign jurisdiction where RQFII is available is allowed to make investment using RMB.
Existing QFII and new Qualified Investors from a foreign jurisdiction where RQFII is not available may only trade Chinese securities using major currencies, other than RMB.
QFII and RQFII must re-apply for a new license in the event of: a change of business name; or an acquisition by, or merger with, other institution(s).
Qualified Investors do not need to re-apply for a new license but only a change of the existing license.
Experience Required of Manager
AUM of Manager
QFII: Not less than US$500 million during the past year
QFII: Eligible custodian
RQFII: Eligible domestic custodian
(Note: A proposed custodian under both programs is subject to the approval of the CSRC and SAFE, and a license will be issued to the custodian. A QFII can retain only one custodian. There are no restrictions on the number of custodians that be retained by an RQFII.)
Eligible custodian: no approval/licensing required and no restriction on the number of sub-custodians
Permissible Categories of Investments
A-Shares/bonds/warrants listed on the SSE or SZSE
Fixed-income products traded on an interbank bond market
Public securities investment funds
Stock index futures
RMB-FX derivatives to satisfy hedging demand
Shares traded on the National Equities Exchange and Quotations (NEEQ, China's OTC Board)
Approved products of the People's Bank of China traded on the inter-bank bond market
Financial futures listed and traded on the China Financial Futures Exchange (for hedging purposes)
Commodity futures traded on futures exchanges approved by the State Council or CSRC
Options traded on futures exchanges approved by the State Council or CSRC
Foreign exchange derivatives that SAFE allows Qualified Investors to trade
Securities lending on domestic stock exchanges
Investment into Private Funds
Permitted, but investment strategy must conform to the scope of permissible assets of the respective Qualified Investors
The legal relationship between the beneficial owner of securities (client) and the QFII/RQFII nominee holder (client's asset manager), including arrangements to segregate the
The clients' assets held by a Qualified Investor belong to the respective clients and are segregated from the Qualified Investor and the PRC custodian. Where the securities
client's assets from those of the asset manager, is defined by contracts between the client and the asset manager, and governed by the laws of the jurisdiction as specified in such contracts.
The A-share account system can support the recognition of rights and interests of beneficial owners of securities held in nominee accounts opened for the QFII/RQFII separate account (managed account) product. A QFII/RQFII may choose to open accounts in the form of "QFII Client Assets" or "QFII Client Name" to further demonstrate that assets in such accounts belong to the relevant beneficial owner, separate from those of the asset manager.
account is named as "Qualified Investor + Client Name" or "Qualified Investor + Client Funds", the Qualified Investor must open separate sub-accounts for each separate fund product, rather than establish a comingled account, and must identify the investors in each of those separate fund products.
This updated was authored by Michael Wong and Stanley Tiu.
Michael Wong Partner T: +852 3518 4738 email@example.com
Mandy Cheung Associate T: +852 3518 4773 firstname.lastname@example.org
Frank Fu Associate T: +852 3518 4748 email@example.com
Vivian Tang Associate T: +852 3518 4759 firstname.lastname@example.org
Stanley Tiu Registered Foreign Lawyer in Hong Kong T: +852 3518 4755 email@example.com
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