Favoured adage ‘Build it and they will come’ implies that creating new, improved structures aimed at opening market borders should help pave way for a more vibrant, sustainable investment management industry in Australia. Yet while new infrastructures have been built and are ready to facilitate the trading of managed funds across borders, they are yet to see substantial international flows.
New technology-enabled solutions, geared towards delivering improved and safer investor outcomes, are emerging across the supply chain. Despite this, behavioural, regulatory and legislative obstacles continue to exist, preventing the freer flow of managed fund investment across borders.
The fact is that while obstacles to outbound and inbound investing are substantial, the technological infrastructure is already in place for a truly international managed funds market.
Local managers have already successfully attracted around $100 billion(1) from offshore investors, almost double the investment from a decade ago. This international flow, however, pales in comparison to the total $2.8 trillion(2) fund assets in Australia, and falls desperately short against global peers. Foreign capital represents 31 percent of total funds in the United Kingdom, 68.5 percent in Hong Kong, 80 percent in Singapore and 99 percent in Luxembourg (3).
From an outflow perspective, the size of Australia’s funds management market continues to eclipse Australia’s national GDP, placing greater pressure on domestic capital to seek diversification via offshore investment strategies, sectors and skills. This requires an efficient market structure that aids, not inhibits, cross border reach and flow.
Australian investors seeking international exposure are limited to certain investment options, in order of accessibility:
- ETFs for hands-off exposure
- A$ domiciled funds of international strategies
- Direct international shares through brokers
- Separately managed accounts that allow international exposure
- Offshore based funds in other jurisdictions (often requiring nominal holding companies)
Where ETF exposure can be relatively simple to implement, the more direct and active styles of international investing can be complicated processes for the investor, the fund and the adviser. Further, the way in which advisers are incentivised and investors taxed, arguably discourages outbound and inbound investing respectively. For instance:
- Appetite among financial advisers to move client capital into more exotic or extra-territorial funds of which they have less understanding of is very low (risk/reward payoff not sufficient)
- Limited professional indemnity insurance protection for advisers further reduces appetite to move investors into new territories
- All income, derived from domestic or international investments, is subject to Australian tax, at rates comparatively much higher than international peer markets
The creation of collective investment vehicles, mutual recognition of fund schemes and fund passport arrangements have offered political and practical salves while current regime parameters persist. The Asia Region Funds Passport (ARFP) is targeted to commence 1 January 2018, enabling managers to offer products to retail investors in participating countries – starting with Australia, New Zealand, South Korea, Japan and Thailand. This demonstrates a big step in harmonising market access, reinforced by recent reforms to Australia’s Investment Manager Regime (IMR) however industry advocates, notably the Financial Services Council (FSC), remain vocal about the risk of Australian managers being excluded if Australia’s high non-resident withholding taxes are not reformed or appropriate investment vehicles not created. Withholding taxes currently levied at foreign investors for income and capital gains from investment trusts in Australia, is currently being reviewed by the Government following industry consultation last year.
We also have much to learn from how Undertakings for Collective Investments in Transferable Securities (UCITs) have overcome many of the obstacles associated with international funds investing. We can take heart that the 32 years of learnings, since UCITs were introduced in 1985, have been modelled into the Asia Regional Funds Passport, and that the regulatory environment for UCITs is becoming more standardised. For instance, in November 2016, The Association of the Luxembourg Fund Industry (ALFI) negotiated with ASIC the exemption for UCITs to hold an Australian Financial Services Licence (AFSL), paving way to a greater range of funds offered by overseas fund managers to Australians. As yet, we have not seen this development translate to a surge in fund transactions on our network, the reason potentially being driven by other cited market factors.
So, while there is work to be done in the facilitation layer to encourage greater cross border flow of funds, the pipes are in place to support an active and truly international funds management sector.
- AFR 28 Feb 2017: http://www.afr.com/business/banking-and-finance/financial-services/fsc-calls-for-removal-of-withholding-tax-to-be-included-in-may-budget-20170228-gun9dx
- UBS and FSC December 2016
- FSC media release: Government shows strong commitment to Australia’s funds management sector 19 July 2017