Asset servicing firms discuss the confusion caused by UAE funds regulation, the cost barriers in Islamic finance, and why Saudi Arabia is the key to the Mena region. Chaired by George Mitton in Dubai.
Stewart Adams, regional head of investors and intermediaries (MENA & Pakistan, Standard Chartered Bank)
Nicolas Angio, managing director (Apex Fund Services, Dubai and Bahrain)
Rodney Ringrow, senior executive officer (State Street MENA)
Thomas Sams, head of investor services (MEA, securities & fund services, Citi)
Funds Global: Which sectors and investment types do you expect to be popular in the region in the coming years? Will there continue to be inflows into fixed income and sukuk? Or will flows into equities, private equity and property be more significant?
Stewart Adams, Standard Chartered: Sukuk and fixed income will probably remain the number one choices. Clients are still looking for asset safety and a good return. Property is an interesting one. The retail property market is maturing with macro prudential measures being applied to ensure its healthy growth.
Commercial property has pockets of interest with investors seeking good yields from new tower blocks across the region. The yields look to be in the region of 8-10% with quality tenants. As the market in general picks up, then lease agreements will become stronger for the investors with tenants wanting to sign longer agreements as confidence builds.
Private equity has been high on investors’ priorities in the region and I feel it will continue. We may see some different plays on the structure as investors look for different angles to make the returns.
Thomas Sams, Citi: In this part of the world, there’s a copycat syndrome. If the global market is focusing on fixed income, investors here tend to focus on the same. Likewise with equities.
The markets remain, from a volume perspective, fairly small and need a liquidity injection. Private equity has been a strong focus for clients and the sector has been successful in attaining the level of returns they’re looking for, unlike what we have seen in the traditional equity fund markets.
Nicolas Angio, Apex: Looking at our client base, fixed income funds are flying. They’re receiving assets in significant volumes and there’s just no comparison with equities at the moment. The average investor does not feel comfortable with equities in general. They don’t understand the fundamentals that are driving the market and until they feel comfortable, investors won’t pile any money into equities again.
Funds Global: What changes would be most significant in invigorating market growth in the Mena region? The potential opening up of Saudi Arabia to foreign investment, the upgrading of Qatar and the UAE to emerging market status, or other developments?
Angio: Increasing liquidity, giving managers an easy way to short stocks across the Gulf Cooperation Council (GCC) and introducing derivatives would all help the markets, but they are on the periphery. Saudi Arabia is the key to all of the GCC. Saudi Arabia has a large population and a diverse economy, and can do something for the GCC that none of the other countries can. Qatar and the UAE can encourage certain industries, such as banking and investment services, but in the end what you need are companies across all industries that produce goods. And that’s what we see in Saudi.
We’ll probably talk about this for another ten or fifteen years, but the day the market opens up a bit more in Saudi will be the trigger for the GCC. It just overrides any other factor in terms of importance.
Adams: I agree, but we’ve been waiting on this for years. There was great speculation in the first quarter of last year that Saudi would open up. It didn’t come through. One of the Saudi regulators presented at a conference last year and covered this point. The surprising point was that he put on screen that the minimum investment to get into the Saudi market by a foreign investor would be $50 million. So, even if it opens, it’s still going to be very narrow. Maybe Saudi is the key but we need to look at other stimulants to invigorate the growth.
What I would like to see is companies being put on the market, such as the airlines, hotel groups and institutions like the Dubai Electricity and Water Authority (DEWA). If these came onto the markets, we would see more international investor interest and that might be enough to cause the switch to emerging market status.
Angio: But there is a difference between what we as service providers want for the market to develop and what these companies need. Initial public offerings occur when there’s a requirement for capital. Many of these huge family businesses don’t require the capital. For government businesses, it would be a political decision, because they don’t require external capital either.
Adams: You’re absolutely right and that’s where government intervention may be required to incentivise the quality companies to come onto the market.
Sams: There is one good example: DP World. That’s one gem that has had some public listings, dual in some cases, and been fairly successful.
Funds Global: How has the regulatory uncertainty in the UAE caused by the Investment Funds Regulation, recently published by the Securities and Commodities Authority (SCA), affected asset servicers? Are you involved in dialogue with the regulator on implementation, and how is this progressing?
Sams: We’ve been involved in dialogue with the regulator from a custodial perspective as we are a UAE-licensed custodian. Towards the tail end of last year, the administration aspect has become apparent in those discussions.
The requirements of a fund administrator under the SCA Investment Fund Regulations are unique. These include increased fiduciary responsibility, organising general meetings and publishing financial reports in Arabic newspapers. Arranging general meetings is not something a fund administrator generally does, neither is publishing financial reports in newspapers in a non-English language. All of us as providers will have to assess whether or not those are functions and services we are comfortable providing.
The regulator has been responsive in our dealings on the custodial side. The biggest question is, how will the regulations impact those funds that exist today and future funds, including foreign managers who want to start up funds, either in the DIFC [Dubai International Financial Centre] or in the UAE?
Angio: We still need to leave time for the dust to settle. We’re in this transitionary period where funds still have a few months left to fully comply. Until we get closer to that date, there’s a number of questions that won’t be answered.
Funds Global: Nick, will you take the route Tom mentioned and say, No, I don’t want to get involved in organising meetings and publishing Arabic reports in newspapers?
Angio: In general, our approach is to adapt to local particularities. For example, we will go into smaller markets or go into smaller funds. However, there’s currently no framework in place to license and approve new administrators. There is a set of regulations that requires licensed administrators for funds and there’s no procedure for administrators to be licensed. It’s a large grey area.
Sams: We currently service DIFC and UAE-domiciled funds and the question remains how will our clients react to this change?
Angio: A lack of service providers willing to work under the new regulation may have an impact on asset managers.
Adams: The regulations have been quite confusing. There is a need to define what the different functions are, in the mind of the regulator. That is, fund administrator, management companies and who can be on the fund board on a non-executive basis.
Angio: Bahrain has a similar situation where the roles of each provider are not the same as they typically are in other fund domiciles. But there’s a tradition of Bahrain-domiciled funds and participants are used to that framework so that it does function, although it’s not 100% straightforward. Trying to create something new at a time when international companies are already here, as opposed to the Bahrain fund framework, which was established prior to lots of the big names coming, may face some resistance.
Funds Global: Given that the SCA rules seem to put limits on what locally domiciled funds can and cannot invest in, do you expect many local funds to launch in the UAE? Would there be an increased demand for third-party administration and custody for those that do?
Rodney Ringrow, State Street: Is it really the role of the regulator to say what managers can and cannot invest in? If they’re trying to get investor protection, which is really what they’re trying to achieve, it should be the other way around.
We have seen this elsewhere in the region too; the best of intentions have led to negative consequences and stifled business.
Sams: The restrictions make it more difficult for local funds to generate a portfolio that will bring in investors. If the existing funds were generating enormous returns, it would be a different conversation, but the portfolios of local funds we service are not huge. They’re small and trading volumes tend to be quite light.
Ringrow: You’ve got funds here with a handful of million dollars each.
Sams: Exactly. Why would you want to stifle them even further? There is a chance some of these structures will change domicile, or they may close altogether.
Angio: It’s OK for the local UAE banks that have plain vanilla products being distributed to their own retail clients. They won’t be too bothered by it. But the law changes won’t encourage the asset management industry as a whole. You’re not encouraging asset managers that want to do something other than run only equities and follow the index.
Funds Global: Are product launches likely to pick up again in the coming months or will the managed accounts business be the main investment vehicle?
Angio: Fund launches have slowed in recent years but in the last six months we’ve seen a lot more of them. It is not the big institutions that are launching them, though. What we’re seeing are lots of spin-offs: managers who have worked for some of the large investment banks setting up funds of their own. That’s something that’s been lacking historically – the small manager in the Middle East.
That’s very healthy for the medium to long-term. We need emerging managers to be established here in the Middle East. We’re not talking about huge AUMs [assets under management], we’re talking about average launches of between $5 million and $15 million, but we’re very excited to at least see that activity.
Ringrow: For a number of our clients, managed accounts have been what’s kept them going the last few years.
They will continue, but we’ve also seen a number launch Ucits funds to attract international investment into the region. And we’ve also seen the start again of some
of the large institutional investors looking at the Middle East.
Adams: Managed accounts will remain important in the region. There are a lot of fund managers out there who have stayed in the market because of the managed fund business. They now have to demonstrate what their niche is to the market. What is their specialism? Family office money is extremely important to these asset managers and by demonstrating their specialism they will grow as the family offices do.
Funds Global: Are you seeing an increase in demand for sharia-compliant investing? Are there any specific issues to consider when servicing sharia-compliant funds? How do you deal with cash investments within these funds?
Angio: Sukuk is the ambassador of Islamic finance at the moment. It’s the one instrument that many scholars and individuals in that market agree on, so there’s close enough to a standard. If you dig a little bit deeper into the other types of instruments, you’ll find that Islamic finance still faces many challenges. It is difficult for small emerging managers in the sharia space due to the sharia supervisory costs involved for servicing that type of fund.
Funds Global: Why are small managers at a disadvantage?
Angio: The large Islamic financial institutions have their own sharia boards, which means they can issue products at little or no extra cost, but if you are a conventional asset manager or a small Islamic asset manager looking to establish a fund that is sharia-compliant, you require the stamp of sharia scholars and a fatwa. The cost to have these scholars involved may weigh down on a small fund. Islamic finance remains the speciality of the large Islamic financial institutions and it will be difficult to develop that market until there’s standardisation and lowering of costs in general. We have partners who run low cost sharia fund platforms which are the only viable options right now for smaller fund managers running sharia compliant funds.
Adams: We’ve got a significant Islamic finance arm under the Saadiq brand and we provide services for sharia-compliant investments. This market will get bigger as savings continue to flow into Islamic vehicles. I agree that for some small managers, though, the costs are prohibitive.
The question also touched on the cash side. We’ve recently enhanced our reporting portal, Straight2Bank, to have an Islamic window for cash reporting.
Funds Global: What are the issues with cash?
Adams: You need to keep cash invested in sharia funds separate from other assets, and ensure the reporting shows no reference to interest payments.
Ringrow: We see Islamic finance still as a retail market. Institutional players are not really dabbling in it.
Sams: I agree it’s a retail market. We’re fortunate to have the Citi Islamic Bank locally, so clients who contract with our local global custody window in the UAE have the opportunity to use our Citi Islamic Bank for cleansing and handling cash in a sharia manner. It’s been a help to our clients but I have not seen a significant increase in the number of requests for this type of service.
Angio: The fact that HSBC has backtracked out of Islamic banking in a number of markets is quite telling. It is a challenging market. HSBC invested massively into the brand, into the product and ultimately they will only maintain this in a few large but retail oriented markets. It does say a lot about where the demand is coming from.
Just from a service provider perspective, it is important to the Islamic asset managers that the service providers fully understand and adapt their procedures to the sharia instruments. As a service provider you can choose to book transactions as conventional and then amend the interpretation of financial statements. But a service provider who’s truly interested in that market will adapt their systems so they reflect the instruments as they should be. Straight2Bank is a good example.
Funds Global: Are you optimistic for 2013?
Ringrow: People are probably more optimistic now than they have been for a long time. We’ve had four years of misery. [laughs]
Adams: If you look at last year, people were optimistic at the start and then in the first quarter it took a bit of a dip. But yes, you’ve got to be optimistic. If you’re not optimistic, don’t be here.
Angio: There is a buzz at the moment, though it is mostly smaller fund managers setting up, which works well for an organisation like us. You don’t see so many large potential clients popping up.
Sams: We’re a volume business. The people at this table are all dependent upon volumes and large fund sizes. So, while Nick’s right, the smaller fund managers are coming out with new products, that does not help generate the kind of margins that most of the service providers are looking for. There is more interest in the public sector entities such as pension funds or other social entities. Those are the mandates that this industry becomes excited about because there’s an increased level of growth and that’s what you look for.
But overall the outlook for 2013 is, I would say, conservatively optimistic.
There is more interest in the public sector entities such as pension funds or other social entities. Those are the mandates that this industry becomes excited about because there’s a level of growth and that’s what you look for.
©2013 funds global MENA