Unit trust investors may get more offshore choice

You may soon be able to invest in a wider range of foreign-domiciled unit trust funds that have been approved by the local regulator, but, in the short term, there may be fewer options if you want to gain exposure to offshore markets by investing in funds that are denominated in rands.

At least two South African fund managers have closed their rand-denominated foreign funds to new investments after the funds reached their foreign exchange limits. More are expected to do so soon.

Late last year, the Financial Services Board (FSB) revised the requirements that foreign-domiciled funds must meet in order to be registered as funds that can be marketed to local investors. The move should encourage more foreign managers to register funds in this country.

A number of foreign managers have left the South African market since 2007. In that year, funds sold in Europe adopted the third version of the Undertakings for Collective Investment in Transferable Securities (Ucits 3), which allows funds to use non-traditional investment techniques, albeit with controls to mitigate risk.

Offshore funds that comply with Ucits 3 found that they could not register in South Africa, because local rules prohibit funds from using some of the instruments in which Ucits 3-compliant funds can invest.

The number of foreign collective investment scheme funds available to South Africans decreased from 366 in 2006 to 306 at the end of last year. The loss of these funds has, to some extent, been offset by the launch of offshore funds by local managers, such as Investec, Coronation, Foord and Regarding Capital Management.

Local managers’ offshore funds now dominate the list of FSB-approved foreign collective investment schemes.

Now, changes to the FSB’s requirements for offshore funds may attract foreign managers back into the local market. These changes, introduced late last year by way of a notice under the Collective Investment Schemes Control Act (Cisca), state that, from this year, a foreign scheme must:

* Operate within a regulatory environment that is similar to the one that governs collective investments in South Africa;

* Offer funds in the country in which it is domiciled; and

* Market its funds in South Africa to investors who are similar to the ones to whom it promotes its funds in the country in which it is based.

The notice also obliges foreign schemes to be sufficiently liquid, so they can pay you out when you want to disinvest, and restricts funds from investing in instruments that could result in their owning physical commodities.

One of the main obstacles to registering foreign funds in South Africa related to the FSB’s requirement that a fund must appoint an independent custodian to hold the securities in which it invests. Previously, it required that the custodian be independent of the fund’s other service providers. This no longer applies.

Many foreign-domiciled funds – particularly those in Europe – do not separate the oversight of the fund (the trustees) from the custodial services, and contract major banks both to provide custodial services and to administer the funds.

One of the world’s largest asset managers, BlackRock, is investigating the possibility of registering its funds here, Barbara Vintcent, managing director of BlackRock’s South African office, confirmed. BlackRock has US$3.6 trillion invested in actively managed and passively managed funds around the world.

Vintcent says BlackRock and lawyers representing other foreign managers were very involved in the consultations with the FSB that led to the notice that was issued in December last year, which was a major advance on the FSB’s previous position.

However, it is still not possible to say with certainty that Ucits-compliant funds can register in South Africa, she says.

Jurgen Boyd, deputy executive for collective investment schemes at the FSB, says so far this year there hasn’t been a rush of managers requesting registration.

Last year’s changes have also brought relief to local managers of rand-denominated funds of funds that invest in funds denominated in foreign currencies.

John Kinsley, managing director of Prudential Portfolio Managers, says that Prudential had struggled to use the funds of M&G, the United Kingdom-based manager in the global Prudential group, as the underlying investments for its rand-denominated Global Value Fund of Funds. In some cases, it had been forced to invest in exchange traded funds instead.

As a result of last year’s notice, the Global Value Fund of Funds is now investing in M&G’s Global Dividend Fund.

Kinsley says Prudential hopes that about 10 M&G funds will obtain FSB approval as underlying investments for its locally based foreign funds. It is considering registering some of these funds as foreign-currency funds for South Africans.

Jo-Anne Bailey, director and country manager for Africa at Franklin Templeton Investments, says there is likely to be an increase in the number of foreign funds that register in South Africa, although there may not be a rush immediately.

Franklin Templeton has for many years offered a wide range of FSB-approved foreign-domiciled funds to South Africans.

The local market is not easy for foreign managers, who need to understand the needs of South African investors, the retirement fund investment regulations and how to complement local investors’ domestic portfolios, Bailey says.

The FSB’s new notice gives no guidance on the permitted investment parameters for offshore funds, and this has also created opportunities for foreign managers seeking to register some of their “more interesting” fixed-income funds, Bailey says.

Franklin Templeton is considering registering in South Africa some top-performing fixed-income funds that are available to investors across the globe.

National Treasury this week gave feedback on the proposed regulation of hedge funds, which it expects to finalise in the second quarter of this year and which may create more opportunities for new funds.

 

LOCAL FUNDS REACH THEIR LIMITS

Local investors may find it difficult to invest in rand-denominated funds in the near future, because two fund management companies have reached their foreign exchange limits and others are likely to do so soon.

Good returns from offshore markets, as well as the depreciation of the rand against major currencies, has boosted the value of foreign assets in rand-denominated funds. These two factors have driven demand for rand-denominated foreign funds.

Foreign exchange controls restrict asset managers to investing a maximum of 35 percent of their retail assets under management in foreign markets. Both Allan Gray and Regarding Capital Management (RE:CM) have reached this limit and have had to close their rand-denominated foreign funds to new investments.

Allan Gray has closed its three rand-denominated feeder funds that invest in the foreign-currency funds of its offshore partner, Orbis. At the beginning of this month, RE:CM closed its rand-based Global Feeder Fund, which invests in its United States dollar-denominated Global Equity Fund.

Both Allan Gray and RE:CM are allowing existing debit order investments to continue to be made into these funds, and both point out that the underlying foreign-currency funds are still open for investment.

Pieter Koekemoer, head of personal investments at Coronation, says more local fund managers are likely to reach their exchange control limits in the near future. The demand for rand-denominated foreign funds has been strong recently, he says.

Coronation had inflows of about R2 billion into its foreign funds in the last three months of 2013. This amount matched the inflows for the year to the end of September last year, he says.

Wehmeyer Ferreira, head of Deutsche Bank X-trackers, which provides exchange traded funds that track major foreign indices, says demand for foreign investments is likely to remain strong, on the back of improved economic growth in the US last year, the reduction in fears that the eurozone will break up, the under-performance of emerging equity markets in terms of US dollars and uncertainty about the rand.

 

HOW TO ACCESS FOREIGN MARKETS

You can get exposure to foreign markets by investing in two types of collective investment scheme funds:

* Funds in which you invest in rands (rand-denominated); or

* Funds in which you invest in a foreign currency and are registered in a foreign country (foreign-domiciled).

If you use the annual R1-million offshore allowance (or single discretionary allowance) to invest in a foreign-domiciled fund, you need to obtain approval from the South African Reserve Bank (SARB) and convert your rands into a foreign currency.

You can also use the annual R4-million foreign investment allowance to invest offshore, but, in addition to SARB approval, you need to obtain tax clearance from the South African Revenue Service.

You are free to invest in funds that are based anywhere in the world, but only funds that are approved by the South African regulator, the Financial Services Board (FSB), can be marketed in this country.

Investing in an FSB-registered fund reduces your investment risk, because these funds are subject to some measure of oversight by the local regulator.

The FSB insists that foreign schemes that market their funds in South Africa have an office in this country, or have an agreement with a local company to act as their representative. This makes it easier for you to contact someone if you have problems with accessing your investment or if you need to obtain information or a tax certificate.

Credit: IOL