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Local Insights | Bringing Countries Closer To Clients | 2013 1Citi Perspectives | Volume 7 | Q3/Q4 2012

Local Insights:Bringing Countries Closer to Our Clients

Network 3.0 Access. Insight. Expertise. June 2013

Securities and Fund Services

Contents

01.

02.

06.

10.

14.

18.

22.

26.

30.

34.

38.

Foreword

Brazil

China

India

Indonesia

South Korea

Nigeria

Poland

Russia

Taiwan

Turkey

Local Insights | Bringing Countries Closer To Clients | 2013 1

In an increasingly complex world, there’s no substitute for being local. Particularly in emerging markets, success or failure hinges largely on one’s ability to appreciate and navigate market infrastructure, regulation and investor objectives at the local level. Economic growth alone does not necessarily translate into capital markets performance or growth of the asset management industry.

With this in mind, Citi Securities and Fund Services is proud to introduce Local Insights, a series of profiles of individual markets. Leveraging the expertise of our locally based Securities Country Managers, Local Insights aims to provide asset managers, institutions and their intermediaries with insights into the following questions:

• Where exactly is the local market in terms of its evolution from consumption to savings to investment?

• How robust is the post-trade market infrastructure?

• Does the market have the right balance of investor protections and issuer support?

• How open is the market to foreign investment?

• What are the next steps (corporate bond listings, derivatives trading, hedge funds) in the market evolution?

With a physical presence in 61 countries, Citi Securities and Fund Services is unrivalled in our ability to provide our clients with meaningful insights to demystify emerging markets. In some of these markets, we have a proud history of working with our clients for 50 – 100 years, or even longer.

Having a local presence is much more than bricks and mortar. It means having relationships with local regulators, central banks and exchanges to have a firm grasp of market infrastructure; it means having relationships with banks and brokers, to underpin our distribution support services. This allows Citi to not only be aware of local developments, but to also be co-architects of the market’s evolution, drawing on best practices developed across our global franchise.

Local Insights attempts to bring countries closer to our clients, leveraging our experience working in the local market. We encourage you to read more, and invite you to contact us to better understand how to harness the growth of emerging markets.

Neeraj Sahai, CEO Citi Securities and Fund Services

Foreword

Having a local presence is much more than bricks and mortar.

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BrazilInvestors looking for growth today are increasingly drawn to the BRICs (Brazil, Russia, India and China), a collection of countries with rising consumption and productivity fueled by favorable demographics. While much of the buzz has focused on China and India given their expected future growth, in terms of asset management, Brazil is already quite large today.


With this in mind, asset managers looking to increase their global distribution should consider the Brazilian market. And though the outlook for the general economy remains strong, the current Brazilian fund marketplace can boast twice as much AUM as the remaining BRICs combined.1

Distribution in Brazil is not as easy as a penalty kick. Fund sales are largely dominated by a few large banks, many of which promote their own products. Up until recently, investors have favored money markets or fixed income products, as the historically high local interest rates offered better risk-adjusted returns than most other asset classes — a scenario not expected to generate much interest in foreign equities. And foreign brands don’t resonate locally. Nevertheless, the environment for the Brazilian funds industry is changing dramatically: Armed with the right insights, asset managers can choose from a number of emerging opportunities.

Growth of Asset ManagementHaving topped over US$1 trillion last year, the Brazilian fund marketplace is on par with the UK and one of the largest in the world. While many emerging markets offer the promise of long-term growth in the future, Brazil’s fund market is already there.

To this point, the majority of the growth in the Brazilian fund industry has been fueled by “local-to-local” flows — that is, local investors allocating domestically. The unwillingness of local investors to look to international equities is in part driven by their indifference to equities in general. “Ninety-nine percent of fund assets are invested locally,” notes Marcio Veronese, Citi Securities Country Manager in Brazil. According to Cerulli Associates, just 11% of fund assets are allocated to equities as of year-end 2011, with a combined 55% invested in money funds and fixed income.

But Veronese sees this asset allocation as more of a cyclical phenomenon than a structural one. Not too long ago, short-term rates on deposits were north of 10%, but “as rates continue to decline,” Veronese asserts, “this will change.” He also notes that pension funds are just starting to reallocate, given the low rate environment, and expects that investors will gradually shift out on the risk spectrum. “The first step is probably a shift from government bonds into corporate bonds,” he notes, “Then maybe real estate as well as equities, both local and foreign.”

As large as the fund management already is, there are signs that it has room to grow further. “The question of continued growth in professionally managed AUM hinges in part on the continued evolution of the middle class,” notes Veronese. Many of these consumers, he notes, are just now getting access to credit for consumption, including the purchase of a home. “They will perhaps become ‘savers’ before they become ‘investors,’” explains Veronese, “and it may take a substantial number of years for this to change.”

In the near term, growth in professionally managed assets has been fueled by the “A”-class, the rough equivalent of millionaires in the U.S. Interestingly, growth in this segment has not only boosted professionally managed assets, but has helped reshape the distribution landscape. “Some of these individuals recently sold a business, made dozens of millions, and as a result, private banks and family offices have flourished,” Veronese elaborates.

For foreign asset managers, this is welcome news. Whereas the largest retail banks in Brazil are vertical organizations heavily reliant on their own investment products, private banks and family offices typically utilize an open architecture model. These outlets are also more likely to embrace international mandates and to recommend the use of alternative strategies — both potentially beneficial factors for foreign managers hoping to raise assets in Brazil.

1Cerulli Associates Quantitative Update: Global Markets, 2012

Compared to China, there are fewer structural barriers to the globalization of Brazil’s capital markets.

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GlobalizationCompared to China, there are fewer structural barriers to the globalization of Brazil’s capital markets. Until now, lack of appetite, rather than capital controls, have kept a lid on investment flows in and out of Brazil.

Just as retail investors have flocked to high-yielding short-term instruments, so too have foreign investors looked to fixed income securities in Brazil. For long-term foreign investors, access is not a problem, but active management is challenging. “The liquidity of corporate and even some government bonds is still an issue,” explains Veronese, “as most investors’ allocation is held to maturity,” meaning there is no secondary market for trading these securities. Foreign investors also may have to pay taxes on gains from local bonds.

Of course, foreign investors are interested in local equities, and Veronese expects this to continue. Describing a virtuous cycle, he notes that countries with larger GDP tend to attract more investment. He further notes that from 2005 to 2011, the percentage weighting to Latin American equities in the major global benchmarks doubled. Such weightings in turn will influence how large institutions choose to invest.

Anecdotal evidence suggests that this line of thinking is not just theoretical. In July of this year, Japan’s Government Pension Investment Fund (GPIF) awarded emerging market equities mandates to six outside managers.2 While the exact size of the mandates was not disclosed, the $1.38 trillion fund did divulge that these allocations would be benchmarked to the MSCI Emerging Markets index, composed of 21 countries, including Brazil.3 In addition, based on recent conversations Veronese has had, the talk among European pension funds is that many are going to steer their asset allocation toward emerging markets. “I think we are living in a new world,” Veronese observes, “where investors have to follow the changing political and economic balance of power.”

Yet for all the foreign interest, interest in investing offshore on the part of local Brazilian investors remains a work in progress. As discussed above, sophisticated retail investors are more likely to take advantage of high interest rates or to consider local multi-market absolute return strategies. And while Brazil is clearly the fund powerhouse in Latin America, its pension marketplace, albeit larger, is not as advanced as that of neighboring Chile. Whereas Chilean pensions embrace offshore investing, even utilizing UCITS fund structures, Brazilian pension funds tend to be focused on the domestic fixed income market. And given the buy-and-hold approach to fixed income investing discussed earlier, there’s little push for externally managed mandates. However, this too is expected to change over time as pension funds seek higher returns to meet their increasing liabilities, and turn to niche managers, particularly for diversified local or overseas mandates. Furthermore, it’s worth recalling that even in the U.S., few pension funds made significant overseas investments before the 1990s.

The sheer size of the Brazilian marketplace makes it hard for asset managers to ignore, particularly for those managers in developed markets struggling to raise assets with their local investors.

2“Invesco, Lazard among Japan's GPIF mandate winners,” Ignites Asia, July 5, 20123Ibid.


Next Steps for the MarketSetting aside home-country bias, the Brazilian market demonstrates a significant level of market maturity beyond its sheer size. The local derivatives market, for example, is extremely well-developed. Roughly 80% of trades occur via the exchange, with only 20% trading over-the-counter (OTC) — almost the exact opposite of the U.S. market. Even bilateral trades require registration in a central depository and clearing system. Investor protections are also quite sophisticated, placing certain responsibilities on asset managers, while stopping short of being too restrictive.

Having said that, there are some potential next steps in the evolution of the Brazilian market. Beyond the expected diversification in pension fund portfolios, the development of local credit markets is an area for further development. As global investors rethink the notion of the “risk-free rate,” they are increasingly noticing that higher yield in emerging markets is often accompanied by stronger sovereign balance sheets than in developed markets. While some barriers to foreign access to debt have been removed in recent years, more needs to be done if global investors are to act on this thesis.

Market Entry: Don’t Go It AloneThe sheer size of the Brazilian marketplace makes it hard for asset managers to ignore, particularly for those managers in developed markets struggling to raise assets with their local investors. On the other hand, a few global managers with compelling brands have failed to make inroads into the local market.

Any foreign manager seriously considering expansion into the Brazilian market would be wise to enlist the help of a trusted advisor. While in many respects more open than a market like China, a local partner can provide key insights to distinguish between what is simply permitted, and what strategies are likely to succeed.

With a demanding and increasingly global clientele, private banks and family offices are expected to drive the development of objective advice, not to mention the shift in the approach of institutional investors toward the same direction. That being said, Veronese estimates that these channels account for maybe 18% of professionally managed AUM, and managers need to approach them thoughtfully. “Our strength,” Veronese explains, “lies in our understanding of the local market and the insights we can share with our clients.” Such a knowledge base can be particularly helpful as asset managers setup their local footprint.

Finally, while expansion driven by “remote control” may work well in emerging market hubs such as Hong Kong or Singapore, that approach proves challenging in Brazil. While sale of UCITS funds is theoretically possible, they don’t travel well, triggering local taxes. “A local presence is not necessary for retail managers that have relationships with local partners, who could put together master feeder vehicles to invest in offshore products,” says Veronese. On the other hand, pension mandates will be off-limits for foreign managers without a local presence. Even in the retail space, getting on the ground is essential to understanding the nuances of the market and showing a commitment to Brazil for the long term. Given Brazil’s reputation for working hard and playing hard, maybe being local isn’t a bad place to be.■

With a demanding and increasingly global clientele, private banks and family offices are expected to drive the development of objective advice, not to mention the shift in the approach of institutional investors toward the same direction.


ChinaSince ancient times, the Chinese have referred to their country as “Zhong Guo,” Mandarin for “Middle Kingdom.” Today, the meaning is quite appropriate, as turmoil in Europe and anemic growth forecasts for other developed markets leave many looking to China as the world’s central growth engine.

Yet, after a roaring start in the first decade of the millennium, the Chinese asset management industry has seen its growth stall out, even as the local banking sector mostly avoided the issues that plagued developed markets during the financial crisis. While GDP growth has continued to grow at 8% in recent years, Citi-sponsored research conducted by Z-Ben Advisors shows that funds under management today remain some 30% below 2007 levels.1 At the same time, the number of funds has almost tripled, and no fewer than 71 fund management companies are competing fiercely for investors, many of whom prove quite fickle.2 Meanwhile, declining capital markets have reduced asset values, further straining the profitability of managed assets.

Such developments beg the question: Is the China growth story overstated, at least in terms of asset management? And are there credible opportunities for foreign managers, or will local players claim the spoils?

Growth of Asset ManagementAt approximately RMB2.3 trillion (USD360 billion) in assets under management today, the Chinese mutual fund market is about the same size as the Italian market, and considerably below the levels that the country’s GDP might suggest. That being said, the Chinese market is growing rapidly, particularly if one considers not just mutual funds, but also private funds and the more short-term-oriented bank wealth management products.

On the other hand, the retail fund business in China is quite challenging. Even domestic fund managers must deal with a retail public that bifurcates its investments into deposits on the one hand, and high-turnover investments in equities. Churn in mutual fund holdings isn’t any better. “In China, even mutual fund turnover is every 90 days,” notes Kevin Wong, Citi Securities Country Manager for China, “and these are supposed to be diversified, long-term vehicles.”

To build market share, managers must also break into the “Big 4” banks, which routinely account for three-fourths of fund sales. Point-of-sale advice has yet to materialize on a wide-scale basis, and many retail investors have their minds made up as to what they are going to buy before they even walk into the bank.

Foreign managers must deal with these challenges and more. For starters, they must seek approval to invest in the local market via the Qualified Foreign Institutional Investor (“QFII”) scheme. Often, these approvals grant foreign managers quotas of $100 million to $200 million. For a foreign manager looking to distribute a China strategy in their home market, such quotas may not allow the fund to achieve scale.

Foreign managers may also find that their brands don’t resonate locally, or that there may be limited appeal for the products commonly sold in their home markets. One possible solution is to consider joint venturing with local banks or asset managers. At first glance,

“China is not like the U.S. or other markets.”

1China: The World’s Best Opportunity for Asset Managers?, Citi OpenInvestor & Z-Ben Advisors, 2012.2Ibid.

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JVs have been relatively successful in terms of raising assets, with 56% of mutual fund AUM held by JV firms in China, according to Cerulli Associates.3 Of course, foreign managers’ share of this AUM is considerably lower, as regulations prohibit offshore managers from having more than 49% interest in the combined firm. The challenge for new entrants is that at this point, many of the best dance partners are taken.

GlobalizationWhile the Chinese exchanges are relatively young in terms of age, they are quite mature in some aspects. Equity trades settle same-day (T+0), which is largely a positive, but can catch foreign investors by surprise. “China is not like the U.S. or other markets,” Wong points out, “In 100% of the cases, you must have the cash on hand, or there’s no trade.” China is also a “no-fails” market, so if there are mistakes made during trading, there is less time and ability to correct them.

Yet if there are challenges in the Chinese market, globalization continues. In August, CalPERS announced it would invest $530 million in two new real-estate funds targeting investments in China.4 Back in April, local regulators announced that the then $30 billion QFII program would be expanded to $80 billion. This should facilitate what Z-Ben Advisors refer to as the development of “China as an asset class,” separate and distinct from the BRIC countries. Currently, China represents about 10% of global GDP and global market capitalization, yet Chinese equities account for only 0.1% of global investors’ portfolios.5 It may take some time for those figures to converge, but it’s clear what direction things are headed in.

Conversely, there are signs that outbound flows will also increase. For example, the United Nations estimates that as much as one-third of the Chinese population will be aged 65 or older by 2050. To meet an ever-increasing retirement obligation, the pension system will not only require additional funding, but will need to further diversify into foreign securities, including fixed income, equities and alternative investments. Notably, in July, the National Council for Social Security Fund (NCSSF)

announced that it is awarding 13 mandates to foreign managers, including multi-asset, emerging-market local-currency debt, natural resources equities and global real estate strategies.6 Sovereign funds and insurers, who were only in recent years allowed to invest offshore, will also drive flows overseas.

Next Steps for the MarketMany alternative managers in the West are watching the Chinese regulators closely with respect to private equity and hedge funds. While the Qualified Foreign Limited Partnership (QFLP) program does open some doors, there is a minimum requirement to invest 50% of assets in listed equities, effectively rendering this option somewhat limited.

Shorting securities is currently prohibited, limiting the ability of hedge fund managers to execute their strategies. The use of derivatives is limited to local investors for hedging purposes (and not speculation). “When hedge funds are in the press,” Wong adds, “it’s often for the wrong reasons,” which has colored regulators’ perception of these strategies. But if China is keen on Shanghai becoming a major global financial center, these and other controls may need to be relaxed. Hedge fund trading can improve liquidity and serve as an important component of market pricing, arbitraging away market inefficiencies. So the alternatives space is worth watching.

If liberalization hasn’t always proceeded as fast as some foreign managers would like, it’s important to note that Chinese regulators have always taken a thoughtful approach, encouraging investment while protecting its market. “The regulators here have studied well the similar reforms initiated decades earlier in Taiwan, India and Korea,” notes Wong. Similarly, progress can also be judged by comparing how far China has come in the ten years since the launch of the QFII program. Even the recent speeding up of the approval process has helped investment managers. “In the past,” Wong explains, “it was difficult for foreign managers to act on an investment thesis if they saw value at a point in time, only to see that opportunity fade in the course of a two-year approval process.”

“In other markets, you chose the broker based on the quality of their research,” Wong remarks. “Here, that’s a factor,” continues Wong,“ but execution is more important.”

3Cerulli Associates Quantitative Update: Global Markets, 2012.4Funds Chase the Dragon, Top 1000 Funds, August 17, 2012.5China: The World’s Best Opportunity for Asset Managers?, Citi OpenInvestor & Z-Ben Advisors, 2012.6China’s NCSSF awards 13 mandates to foreign managers, Ignites Asia, July 19, 2012.


Market Entry: Don’t Go It AloneMany of those keen on expansion have gazed wistfully at China, thinking that if they could only sell investments to each of the country’s one billion people, they would be rich. In reality, it’s not that simple, as China is quite complex. An evolving regulatory structure, a short-term mindset among retail investors, and the concentrated distribution power of the four major banks beg for partners to navigate the Middle Kingdom.

A foray into institutional markets will require leveraging investment consultants and other intermediaries both to access elusive clients and uncover fruitful if less sought-after mid-sized clients (such as insurers and corporate clients). Breaking into retail channels will require foreign managers to come to grips with an IPO-like mentality. “The nature of the beast,” Wong explains, “is that managers roll at funds that might raise $200–$300 million in the first one to three months, yet see assets dissipate after three to six months,” particularly if there is a chance to take profits. This flow of funds stands in stark contrast to the Western model, where initial years are lean and relatively sustainable

flows are enjoyed after building a three-year track record. Foreign managers would be wise to seek out local partners who could coach them on suitable product development and the need to incorporate innovation as a cornerstone of their business models.

Nor should potential entrants fail to consider market infrastructure when evaluating potential partners. Given the unique nature of settlement in China, Wong cautions that picking the right broker is critical. “In other markets, you chose the broker based on the quality of their research,” Wong remarks. “Here, that’s a factor,” continues Wong, “but execution is more important.”

In emerging markets, having a local ally is always a plus. This includes advocacy with Chinese regulators with regards to market development. For Citi, this means bringing to the table our experience in more than 100 markets and sharing international best practices with local regulators. “China’s regulators are keen to hear what’s going on in other markets and compare that to their own,” explains Wong. ■


On the other hand, there is more work to be done in terms of India’s evolution from consumption to savings and, ultimately, to investing. As in many other economies, economic growth has not equally benefitted all classes; even where a middle class has emerged, it has not always participated in capital markets. Efforts by foreign entrants to invest, sell products or provide advice have also been a struggle.

Despite these short-term challenges, there are some long-run positives for the Indian market. Its regulators understand, for example, that the quality of investment advice needs to be improved, especially beyond the largest cities. They also understand that domestic institutions’ asset allocation needs work, and the regulators have a few ideas here, too. If the road that lies ahead for India appears daunting, at least that road is fairly well mapped out.

Growth of Asset ManagementIf India remains a favorite among economists and other pundits, such positivity in the development of its asset management industry remains a work in progress. With $140 billion in assets under management (AUM), India places fourth out of the five “BRICS” (Brazil, Russia, India, China and South Africa) countries, ahead of only Russia.3 By way of comparison, Taiwan and Belgium have large fund markets.

To make matters worse, most of this AUM resides in bond and money market funds. If China’s retail investors are day-traders, India’s investors are largely disengaged with equity markets. Due to general risk aversion, both high net worth and institutional investors favor short-term funds. A relative increase in the percentage of equity fund assets belies significant outflows due to risk aversion and aftereffects of the August 2009 ban on distribution commissions based on front-end loads.

IndiaIn terms of economic potential, few would question that India has the wind at its back. With a working-age population expected to grow by 40% by 2050,1 and an education system that produces a large pool of internationally competitive, English-speaking graduates, India has already become a global powerhouse in information technology and business processing. With real capita per GDP expected to grow by 7% going forward, India could overtake China and the U.S. to become the world’s largest economy by 2050.2

1Global Growth Generators: Moving beyond “Emerging Markets” and “BRIC,” Citigroup Global Markets, February 21, 2011.2Ibid.3Association of Mutual Funds in India, November 30, 2012.

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Such facts reflect that the retail public has embraced saving over investing. “Household savings run about 21% – 22%, [but] about half of that takes the form of physical assets, mostly real estate and gold,” says Debopama Sen, Citi Securities Country Manager, India. “The other half is held in financial savings,” Sen continues, “but most of that goes into bank deposits and fixed income.” After an allocation to life insurance products, what little is left goes into equity markets.

Change to investors’ allocation might not be in the offing anytime soon. “Mutual funds are a push product,” Sen notes, “they are sold, not bought.” Combine this with choppy equity markets and the aforementioned ban, and it’s not a positive backdrop for equities, she adds. Conversely, interest rates remain relatively high, making the nominal growth on bank statements hard to resist.

What would it take to develop a culture of long-term equity shareholders? “In my opinion,” Sen asserts, “distribution channels need to extend deeper into the country.” She points out that while public and private sector banks have around 82,000 branches, a minuscule percentage are offering mutual fund products. Moreover, regulators are also pushing for increased investor education and incentivizing broader distribution beyond the top five cities, which they view as “overbanked.” A decline in interest rates would not only make deposits less attractive for investors, but it also might facilitate structural change in the industry. “Rates have been historically regulated, but as they come down and competition increases, profitability will decline,” observes Sen. This in turn, she notes, will lead banks to diversify into other higher-margin products, such as mutual funds.

GlobalizationGlobalization is coming to the Indian market, but with a few qualifiers. The rupee is not a freely convertible currency, and there are guidelines as far as what types of foreign investors are allowed, and further controls on how they may invest. Similar to China, limited

access to the local market is available through the Foreign Institutional Investor (FII) program. Historically, this program has been focused on broad-based institutions, such as mutual funds and pensions, rather than banks and brokers. With currency controls in mind, foreign access has been primarily limited to equities and debt, but with foreign investors unable to borrow or earn interest locally on cash.

Although currency controls are likely to be in place for the foreseeable future, there are signs that the FII program is expanding. “Through the new (Qualified Foreign Investor) QFI route, the types of investors who can access the local market will now include retail, family office and broker-dealers’ proprietary trading desks,” Sen explains. “There’s a real excitement over these developments,” Sen offers.

In terms of outbound flows from emerging markets, institutions tend to lead the way. However, it’s unclear if that will be the case with India. The problems are twofold: To the extent India’s institutions invest in equities at all, those allocations are likely to be domestic (both from return as well as regulatory considerations). Second, India’s institutional market is not very large, even compared to its peers. At $63.2 billion, India’s Employees’ Provident Fund is less than half the size of China’s $137.2 billion National Social Security Fund, nor can India boast a $400 billion-plus sovereign fund, such as the China Investment Council.4 According to The Financial Express, India’s Finance Ministry has recently urged insurers, pension funds and their regulators to boost equities investing.5

Next Steps for the MarketIn several other respects, India’s market is fairly well developed. The market infrastructure is fully dematerialized and electronic, with paper settlement having been eliminated long ago. Equities trade with a T+2 rolling settlement, and failed trades are well below 1% of the total. All transactions are guaranteed by a central counterparty.

4 China: The World’s Best Opportunity for Asset Managers?, Citi OpenInvestor & Z-Ben Advisors, 2012, and “India’s EPFO cleared for new debt investments,” Ignites Asia, August 9, 2012.

5“Finmin prods insurers, PFs to invest more in equities,” The Financial Express, August 23, 2012.

India is unique in terms of its derivatives market.


India is unique in terms of its derivatives market. Whereas fund AUM is quite small, India ranks as the seventh-largest derivatives market, and has the largest single-stock futures market. And while retail holdings of derivatives are quite small, there is ample liquidity. “Around 50% – 60% of average daily trading volume of equities and derivatives is contributed by retail,” notes Sen, including small proprietary trading companies. “It’s a contradiction in a way,” she remarks, juxtaposing the largely conservative investor base with these select high-frequency traders.

One area with room for evolution is in the fixed income space. Despite the popularity of fixed income among institutional and retail investors, there is not much in the way of a secondary trading market, particularly for corporate bonds. “Different stamp duties across different states for secondary trading can trigger tax issues. Also, liquidity can be increased for lower-rated papers by relaxing norms on overseas guarantors,” notes Sen.

Exchange-traded funds (ETFs) present another area for additional innovation. To date, the ETF market is very small, with assets around just $2 billion – $3 billion. It is also quite narrow: “The bulk of that figure is held in gold ETFs,” Sen states. For a market still developing an equity culture, simple, affordable products such as ETFs could prove to be a valuable building block.

Market Entry: Don’t Go It AloneWhile India’s economic prospects remain unquestioned, the size and peculiarities of the asset management are not the only issues facing foreign firms. “Foreign managers already here or considering coming to India should bear in mind a few things,” according to Sen. “If you’re going down the joint venture (JV) route, you have to think about what the partner is bringing to the table,” she advises. While private sector banks are popular targets, she sees public sector banks are a worthy target. “These banks are just waking up to value-added services,” she observes, “providing incremental income beyond straight deposits.”

Another strategy is to use JVs to leverage the partner’s brand. “Especially beyond the top two to three cities,” Sen details, “there is still a large concentration of wealth, but not much awareness of the big, global brands.” A well-recognized local brand can contribute greatly to the partnership, Sen states.

Even though some JVs don’t always proceed as smoothly as planned, Sen stresses the need for a local partner. “And if going alone,” Sen cautions, “keep in mind that building a brand will take a long time.”

Given the complexities the market offers, Western managers need to also find the best banking partners to help them establish themselves. “With over 100 years of local presence,” Sen states, “Citi is one of the oldest foreign financial institutions, and we leverage this for our clients.” The nuances of the local market (such as the contrast between the major urban centers and the rest of the country) are details that only a local partner could help a foreign manager appreciate. Sen also suggests going beyond the overbanked channels. “Find those channels brining in new assets,” such as the independent advisor channel, which has tremendous potential.

Today, India may not offer the openness of the Taiwanese market or the size of China’s fund industry. That said, India presents a unique opportunity for Western managers, many of whom are seeing little growth in their home markets. Though still nascent, India has much to offer, including a growing middle class, a prevalence of English-speaking investors and a trail already being blazed by some of the largest global managers. Finally, some of the structural and behavioral barriers in place today are far from permanent. When these barriers do fall, the payoff could be significant. ■

If India remains a favorite among economists and other pundits, such positivity in the development of its asset management industry remain a work in progress.

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IndonesiaIndonesia is one market that has been firmly planted on many investors’ radar screens, and for good reason. With abundant resources and a population of 250 million (approximately the size of the United States), many of which are moving into the middle class, Indonesia’s consumption story can’t be denied. Citi research has identified Indonesia as one of the top ten countries in terms of projected GDP growth (7.4%) through the year 2030.1 The expected 17.9% rise in Indonesia’s working age population by 2050 may allow Indonesia to achieve China-like growth rates over the next 40 years.2

1Global Growth Generators: Moving beyond “Emerging Markets” and “BRIC,” Citigroup Global Markets, February 21, 2011.2Ibid.


Although GDP growth does not always translate into growth in capital markets, such growth has in fact taken place in Indonesia. Fueled by GDP growth north of 6% in 2010 and 2011, the Indonesia Stock Exchange Composite Index rose from a level of 2,534 in 2009 to 3,821 in 2011, with market capitalization rising from IDR2,000 trillion in 2009 to IDR3,940 trillion as of April 2012.

Local debt has also become more attractive, and not just because rates are at historical lows in many developed markets. Around early 2012, both Fitch and Moody’s upgraded Indonesia’s sovereign rating to “Investment Grade,” with the agencies maintaining a stable outlook going forward. Inflation, while running at 4%–5% in recent years, is modest given the level of GDP growth.

Growth of Asset ManagementWhile not a regional financial center such as Hong Kong or Singapore, Indonesia’s asset management industry is growing. “The positive growth trend in GDP has resulted in the creation of more middle- to high-income population who will have access to more funds for consumption, savings and investment,” notes Daniel Wijono, Citi Securities Country Manager for Indonesia. “More local investors are increasing their investments in mutual funds, which has triggered a nearly 60% growth in assets under management,” notes Wijono, as AUM have climbed to IDR181 trillion as of November 2012, up from IDR113 trillion in 2009.3 By comparison, China’s fund AUM actually fell during the same period.

Whereas some fund markets (e.g., India) in Asia are heavily dominated by money markets and bond funds, equity funds represent just under one third of total fund AUM. In the first quarter of 2012, equity fund AUM fell by nearly 5%, but Wijono explains, “The shift is probably because of the change in investors’ current appetite due to the unstable market conditions brought on by the Eurozone crisis.” In terms of unique local offerings, some observers are very excited about the potential for Shariah funds, although growth has slowed in recent years and was not as high as many had expected.

As is the case in many emerging and frontier markets, banks dominate mutual fund distribution. According to Cerulli Associates, banks accounted for nearly two-thirds of mutual fund AUM, with direct distribution accounting for 29% of AUM; however, asset managers see the best opportunities with foreign banks in particular, followed by insurers.4 The institutional market is still quite small, even relative to other Southeast Asian markets, although insurers and pension funds could prove long-term targets.

GlobalizationFavorable growth characteristics as well as a perception of relative safety have attracted significant foreign direct investment (FDI), which jumped 30.9% in the second quarter from a year ago to USD5.9 billion.5 In terms of capital markets, Indonesia is also open to foreigners, with global investors accounting for 60% of equity capitalization and 30% of bond value. While there are no foreign ownership limits and no strict capital controls, documentation is required, including providing evidence of economic activities (e.g., securities transaction instructions) in order to purchase Indonesian Rupiah.

But globalization is still a work in progress for the local asset management industry. Part of this is due to regulation: Foreign managers wanting to sell offshore funds must either partner with local managers and seek approvals, or establish a local presence and obtain a license from the regulator. “After the 2008–2009 crisis, especially with the downfall of Lehman Brothers and Bear Stearns,” Wijono explains, “the Central Bank of Indonesia restricted all offshore investment products to be distributed by the local banks in Indonesia.” Therefore, most of the funds distributed in Indonesia will be local domiciled funds managed by domestic Asset Management Companies.

“The shift is probably because of the change in investors’ current appetite due to the unstable market conditions brought on by the Eurozone crisis.”

3Bapepam-LK.4Cerulli Associates Quantitative Update: Asset Management in Southeast Asia, 2010.5”Emerging Market Plays: Indonesia’s Domestic-Driven Economy,” Investing Daily, July 27, 2012.

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Given the performance of local equities in recent years, it may be the case that investors see no reason to look offshore. Even where foreign firms (such as Schroders or BNP Paribas Investment Partners) have enjoyed success, they have done so largely through sales of funds investing in the local market.

Next Steps for the MarketIn terms of next steps for the Indonesian market, more work needs to be done in terms of alternative investments. The demand for alternatives is not very strong due to the complexity of the investment structure for local investors. “The majority of the local investors will still invest in traditional vehicles and time deposits,” notes Wijono, “while the more sophisticated investors will explore either Singapore or Hong Kong markets for alternative strategies, due to the greater variety and the concrete regulation to support those structures in those markets.”

However, the local regulator and market participants have been actively reviewing the development of offshore practices and products, and regulators are more open to implement new changes in the regulation in order to stimulate local players to create and introduce new products in the local markets. That being said, Indonesia has not gone so far as some Latin American markets as to encourage high-frequency trading (HFT) to promote liquidity and the growth of the financial services industry.

Other initiatives under way include a push for straight-through processing (STP). The focus here is on streamlining processing between the central counterparty and exchange members (e.g., brokers), while also improving the settlement process between the central depository and its members. Settlement times run at T+3, consistent with many major markets.

Market Entry: Don’t Go It AloneIndonesia is indeed a burgeoning economy, but successful market entry for foreign managers is far from being a “slam dunk.” To access and invest locally, clients will need a strong and experienced partner not only to provide basic services, but also to provide critical information and advocacy to ensure better management of their expansion strategy. ■

“The majority of the local investors will still invest in traditional vehicles and time deposits,” notes Wijono, “while the more sophisticated investors will explore either Singapore or Hong Kong markets for alternative strategies, due to the greater variety and the concrete regulation to support those structures in those markets.”


Indonesia is indeed a burgeoning economy, but successful market entry for foreign managers is far from being a “slam dunk.”


Nor has such quasi-developed status left Korea in the same doldrums now facing many Western economies. For example, unemployment is estimated at 3.8%,2 and the government is targeting a fiscal deficit at just 0.3% of GDP,3 both levels that would be prized by Western economies. Chaebols or large conglomerates have enjoyed robust sales and have developed a reputation for quality in sectors such as electronics and automotive.

Despite these achievements, MSCI made the decision in June of 2012 not to elevate Korea to “developed” status. While this is somewhat of a setback, GDP still rose by 2.7% in 2012,4 and is projected to rise another 4% in 2013.5 More importantly for asset managers, Korea has a thriving investment industry, presenting compelling opportunities in retail and institutional channels.

Growth of Asset ManagementWith $261.6 billion in assets under management (AUM) as of November 2012, Korea’s mutual fund market is almost twice the size of India’s ($138.3 billion), and approximately two-thirds the size of China’s ($352.4 billion).6 The majority of fund assets are held in equity and balanced

portfolios, suggesting that Koreans are true investors, in contrast markets such as India, where the majority of fund assets are in money market and bond funds, reflecting a savings culture. For the industry, the upshot is higher margins, greater product proliferation, and the ability to capture flows in a variety of market environments.

Equally important, Korea presents a compelling institutional opportunity. According to Cerulli associates, Korean retirement assets totaled KRW419.3 trillion ($362 billion) in 2011.7 Given the aging of the population, retirement assets are projected to grow to KRW741 trillion ($640 billion) by 2016.8 These funds are expected to increase their allocation to equities (foreign and domestic) and alternatives in order to fund their liabilities.

In addition to retirement assets, local sovereign fund Korea Investment Corporation (KIC) is a powerful player. KIC holds $45 billion in assets under management, and its size and sophistication allow it to consider illiquid opportunities, such as distressed investments.9 It has also demonstrated to use foreign managers, such as PIMCO and Western Asset.

South KoreaManagers looking to investment in emerging markets may have one stumbling block when it comes to South Korea, namely, should it even be considered “emerging” at all? At a level of $32,400, Korea’s per capita GDP is just slightly below that of the European Union, and roughly two to eight times larger than the highly touted “BRIC” (Brazil, Russia, India, China) economies.1

1The World Fact Book, Central Intelligence Agency, February 5, 2013.2Ibid.3“Bahk Eschews Stimulus as South Korea’s Slowdown Abates,” Bloomberg, October 9, 2012.4The World Fact Book, Central Intelligence Agency, February 5, 2013.5“Bahk Eschews Stimulus as South Korea’s Slowdown Abates,” Bloomberg, October 9, 2012.6The Cerulli Edge—Global Edition, Cerulli Associates, February 2013.7Cerulli Quantitative Update: Global Markets, 2012, Cerulli Associates.8Ibid.9“Korea’s KIC still risk-off, but adding alternatives,” Ignites Asia, April 2, 2012.

Korea presents a compelling institutional opportunity.

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GlobalizationWhile the Korean asset management marketplace is fairly global, there are some challenges ahead. Retail investors can and do buy offshore funds via specific distribution channels once the funds are registered with the local regulator. “However, direct sales of offshore funds are not common due to difficulties finding distributors and/or parties to take on the registration process with the regulator. Offshore funds are usually distributed in a form of fund of funds via onshore funds set up by local asset managers or offshore managers’ local office,” notes Hee-jin Kim, Citi Securities Country Manager, Korea.

While equity funds comprise about 30% of total AUM as of September of 2012, investors have continuously reduced their equity fund investments.10 Investors have also significantly decreased their use of offshore equity funds since the financial crisis, even though such funds still represent 48% of total overseas investment funds as of September of 2012.11

On the institutional front, the picture is somewhat brighter. In May, NPS announced plans to triple its international exposure over the next five years, through a combination of overseas equities and fixed income investments.12 Driven by a need to source greater returns, the reallocation will also include an increase in exposure to alternatives. However, this does not automatically translate into a greater opportunity for foreign managers, as NPS has stated its desire to leverage its size to further develop its in-house capabilities for managing international equities.13 Similarly, Korea Teachers Pension (KTP) has stated its intention to increase its overseas exposure from 8% to up to 15% over the next three years.14 And The Police Mutual Aid Association (PMAA) of Korea, hitherto invested exclusively domestically, is looking to invest overseas next year.15

Next Steps for the MarketWith strong dual-pillars in the form of sizeable retail and institutional markets, Korea’s asset management market is here and now. Nevertheless, there are some obvious next steps for the market. Perhaps the first is the consolidation of the retail market. Data from the Korea Financial Investment Association put the industry at 10,004 funds as of July 12, making it one of the largest globally, but rendering many funds sub-scale.16

Second, the development of hedge funds is a positive, but there is more work to be done. The Financial Services Commission (FSC) introduced hedge funds in 2011 but flows have been a little bit slower to come along. “Hedge funds are very early, and still incubating,” remarks Kim.

Third, the aforementioned potential reclassification of Korea from “emerging” to “developed” status would certainly provide additional liquidity and raise the profile of the local market. Such a change might facilitate a greater allocation from global pension funds and other institutions, some of which by policy may shy away from emerging markets, yet see little appeal in Europe from an investment perspective.

With strong dual pillars in the form of sizeable retail and institutional markets, Korea’s asset management market is here and now.

10Korea Financial Investment Association.11Ibid.12“NPS to triple global equities investment,” AsianInvestor, June 4, 2012.13“NPS to insource more international equities,” AsianInvestor, January 18, 2012.14“NPS chief urges institutions to broaden mandates,” AsianInvestor, September 17, 2012.15“Korea’s police force looks to invest abroad,” AsianInvestor, September 6, 2012.16“Korea’s fund glut growing again,” Ignites Asia, July 19, 2012.


Market Entry: Don’t Go It AloneWith sizeable retail and institutional markets already in place, Korea has moved further along the curve from savings to investment than many of its emerging market peers. Importantly, for potential foreign entrants, this can translate to better distribution opportunities and more mature capital markets.

On the other hand, this backdrop and the acceptance of UCITS do not automatically lead to low-hanging fruit for foreign managers to pick. Foreign firms need to work with a local law firm to register for local fund sales. They must also “crack the code” with local distributors even after registration. “It’s much easier for foreign managers to distribute offshore funds to retail investors by setting up a local office or working with local managers to create onshore feeder funds,” Kim asserts. “As for institutional investors, direct distribution is permitted without registration of offshore funds,” Kim continues, “but it is critical to have client coverage within the same time zone.” ■


NigeriaThe recent slowdown in growth rates in many emerging markets has piqued asset managers’ interest in frontier markets. With their comparatively under-developed economies, frontier markets offer compelling long-term growth stories, particularly if resources and demographic drivers are in place.

One such well-placed frontier market is Nigeria. With a population over 150 million and a low dependency ratio, the country enjoys a large and growing labor force. Oil revenues have been managed more prudently in recent years, leading to the establishment of a sovereign wealth fund. These factors, along with promising agricultural development and a stable government, have led some analysts to view Nigeria as one of the higher sustainable growth stories in the coming decades.1

Growth of Asset ManagementAs Nigeria’s economy expands, its asset management industry also offers tremendous long-term potential. The private sector is making good strides, with a few companies serving as regional leaders, and a middle class is in the early stages of development. State institutions and capital market infrastructure, while not as far along when compared to regional powerhouses like South Africa, are making good strides.

Today, Nigeria’s fund market is just developing, with $551 million in assets under management as of mid-year 2012.2 The first exchange-traded fund, the NewGold ETF, was listed in December 2011. While the number of mutual funds is up nearly 50% since 2008, assets have been cut in half over that time period.3 “Nigeria’s capital market was a booming capital market up until about August 2008, and has been on the road to recovery since then,” notes Kemi Adewole, Citi Securities Country Manager, Nigeria. “The present growth in the Nigerian capital market is a sustained growth,” she continues. Whereas many markets and asset management industries across the globe recovered in 2009 and 2010, the same was not true in Nigeria, as a 17% loss in the NSE All Share Index in 2011 led investors to become even more risk averse.

1Global Growth Generators: Moving beyond “Emerging Markets” and “BRIC,” Citigroup Global Markets, February 21, 2011.2Nigeria Securities & Exchange Commission, Citigroup.3Ibid.

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Next Steps for the MarketGiven that the Nigerian Stock Exchange is over 50 years old, “One expects an extremely vibrant exchange, and it is moving in that direction very quickly,” remarks Adewole. “We are also beginning to reap the dividends of various reforms in the market,” she continues, “and the good thing about this is that the current growth is sustained.” While equities typically trade T+3, the settlement process is not fully dematerialized, with as much as 30% of settlement still paper-based. ”The depository, key market participants and the SEC are working on making Nigeria a fully dematerialized market,” Adewole asserts.

In any market, the barriers to development can be intertwined: Without a greater number of funds, liquidity can’t be improved, yet without the presence of large domestic institutions and foreign investors, it becomes difficult to raise assets. “This is an area the SEC is focusing on,” states Adewole, “by registering a few more funds and putting guidelines in place for the management of these funds.”

Regulators are also trying to facilitate and handle future market growth by improving market infrastructure today. The NSE is in the process of converting from a member-owned exchange to a shareholder-owned one, which should improve corporate governance and efficiency. In June of 2011, the NSE selected NASDAQ Group Inc. to upgrade the exchange trading platform in order to speed up and increase the capacity for trades. “What they are trying to achieve is to ensure that when the market does fully bounce back, it’s structurally sustainable,” Adewole explains.

The current plans for securities lending should deepen the capital markets and make them more attractive to investors. Additional governance improvements came earlier this year through the mandatory adoption of the International Financial Reporting Standard (IFRS) for all exchange-listed companies. Finally, developing a variety of products across the risk spectrum will create appropriate solutions throughout the market cycle, thus fostering long-term investors.

If the upswing in 2008 reflected the first sizeable retail participation in a bull market, the bear market had a psychological effect on their confidence. “This was the first real crash our market had ever suffered,” explains Adewole, “Since then, investor confidence has been slow to return.” Although the NSE increased the Investor Protection Fund to N600 million to compensate investors in the case of fraud, market participants realize that there is more to be done to bolster trust in the markets.

Beyond the creation of the sovereign fund, Nigeria’s institutional channels include a growing pension marketplace. As of 3Q 2011, pension assets stood at N2.2 trillion (approximately $14 billion), with investments in stocks and real estate rounding out a core allocation to money markets and fixed income.4 “The federal government has carried out reforms in the pension sector,” states Adewole, in order to better provide retirement solutions through the decade-old system.

GlobalizationOn the investment side, Nigeria has seen globalization take hold. “As custodians,” Adewole says, “we have seen an influx of foreign investors investing in T-bills and bonds.” This uptake has been driven both by foreign investors’ quest for yield, and by the easing of capital controls. “In a bid to encourage foreign investments into the country, the government removed the one-year restriction on investments in government securities by foreign investors,” Adewole notes. Foreign investors do still need to be issued a certificate of capital importation, but the document serves as more of a tracking mechanism than a control mechanism. “Now, you can invest and divest as you wish,” Adewole explains.

On the equity side, a handful of managers based in developed markets have identified Nigeria as a target market given its consumption story and its low market capitalization-to-GDP ratio, which is low even relative to emerging markets.5 A strong case could be made that investors in Nigeria have the opportunity to get in early in a market with a population similar to Russia.

“One expects an extremely vibrant exchange, and it is moving in that direction very quickly,”

4National Pension Commission Pension Industry Quarterly Review, Third Quarter 2011.5 The Frontier Markets’ Ship is Sailing, SilkInvest.com, June 2012 and Managers bet on frontier markets, Citywire Global, January 2011.


Market Entry: Don’t Go It AloneThe incredibly fast pace of change in emerging markets makes local partnerships highly desirable for foreign managers. In frontier markets, those partnerships become indispensable.

A key role to be played by local partners is to provide foreign managers with an understanding of the investment landscape, from local law and registration requirements to distribution dynamics. “Citi has been in Nigeria for 28 years,” Adewole states, “Regulators and key market participants view us as a partner: They can rely on us to transplant global best practices.” For these reasons, regulators have awarded Citi a seat on the Capital Market Committee, the Demutualization Committee, and the Capital Market Technical Committee on CSD/Registrar procedures. Citi can bring these insights to clients as well, to help them navigate the market.

Although Nigeria offers foreign managers a promising future, Adewole cautions against taking shortcuts. Price is important, but it always pays to go through professional firms and obtain the proper documentation. ”If you conduct proper due diligence, work through credible institutions and obtain proper documentation,” Adewole asserts, “then the law is on your side.” ■

“Citi has been in Nigeria for 28 years,” Adewole states, “Regulators and key market participants view us as a partner: They can rely on us to transplant global best practices.”

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PolandWhen asset managers are considering growth markets, Poland doesn’t always make the shortlist, though perhaps it should. At $771 billion in real GDP in 2011, Poland’s economy is the largest in Central Europe, and the 21st in the world.1 The country’s major exports include machinery and manufactured goods, and its major trading partners include Germany and the United Kingdom. Economic considerations make Poland intriguing, but so does the development of the financial services sector. Barely 20 years old, the local stock exchange boasts a market capitalization of nearly $140 billion as of December 2011. And while Poland’s growth so far has been impressive, comparing market capitalization or managed assets to GDP suggests that there could be more to the story.

Poland also boasts a strong institutional market, composed largely of pension funds and insurers.

1World Fact Book, Central Intelligence Agency, November 13, 2012.


Growth of Asset ManagementPoland’s asset management industry is still developing, but already strong compared to its peers in emerging Europe. At $25.4 billion in mutual fund assets under management (AUM), Poland’s market is larger than Croatia, The Czech Republic, Hungary and Russia combined.2 “Assets grew significantly from the mid-’90s, at almost a 50% compound annual growth rate until 2007,” notes Artur Binkiewicz, Citi Securities Country Manager, Poland, “but then in the crisis, AUM was cut in half.”

More recently, the number of funds has tripled, which has been somewhat of a mixed blessing. On the one hand, there has been a proliferation of funds across the risk spectrum, including those that focus on individual regions and sectors, offering investors more choice and a product for many market environments. Closed-end funds have also enjoyed strong growth. On the other hand, as assets have trended sideways in recent years, the growth in number of funds has reduced their average size. “There are a number of big, stable funds,” observes Binkiewicz, “but also a lot of new funds that are very small,” leading to questions about their sustainability.

In terms of distribution, banks are a major force, both in terms and selling funds, and gathering deposits, which have figured prominently in Poland for historical reasons. Banks typically employ one of three models: closed architecture (selling their affiliated funds exclusively), mixed architecture (augmenting their proprietary offering with options from two or three partners to provide a degree of choice) or a completely open fund supermarket. The independent financial advisor (IFA) channel boasts a couple of significant players, but still remains small relative to the banks. Direct-to-consumer sales and family offices are models that do exist, but are fairly nascent to date.

Poland also boasts a strong institutional market, composed largely of pension funds and insurers. “Pension assets are roughly PLN230bil ($80 billion),” Binkiewicz states, “significantly larger than the fund business.” Pension funds are invested mostly in government bonds and money markets, and while they have limits on the amount they can invest in equities, they also cannot invest 100% in government securities either. Insurers tend to have very conservative asset allocations.

GlobalizationAround 2004-2005, Binkiewicz recalls, foreign firms began distributing in Poland. A couple of well-recognized global brands launched Luxembourg-registered funds distributed in Poland, enjoying some success. “However, if you compare their AUM to that of the local players,” he counters, “global players represent maybe 3% of assets.”

Yet if globalization is still taking hold on the distribution front, it is well under way in the capital markets. Established in 1991, the Warsaw Stock Exchange is fully dematerialized, with a market capitalization currently higher than that of the Vienna Stock Exchange. “Companies in neighboring countries such as the Ukraine, the Czech Republic and the Baltics often list here,” Binkiewicz explains, “since it’s possible to raise capital here with liquidity.” These companies realize that their home markets are illiquid, and sometimes see listing in Poland, the largest economy in Central Europe, as a way to show their commitment to the market. “If you’re a foreign company investing in Poland, doing business here, and wanting to be recognized,” he reasons, “you list here to increase your local visibility.”

2The Cerulli Edge—Global Edition, September 2012.

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Clearing novation is necessary to ensure that the central counterparty created by the NDS will be compliant with European Markets Infrastructure Regulation (EMIR) requirements.

Although access to emerging markets can sometimes be problematic, investors can access Poland quite easily. “The market is quite open,” observes Binkiewicz, “there are not really a lot of controls, and access for foreigners is really no different from local investors.” There are no significant ownership restrictions for foreigners beyond standard concentration limits that apply to local investors as well. Most foreign investors tend to focus on equities and government bonds; foreign investment in corporate bonds or derivatives is lower. Binkiewicz does caution foreign investors to familiarize themselves with withholding tax procedures. “If certain conditions are fulfilled,” he states, “it is possible to apply for a lower tax rate on dividends and interest.”

Next Steps for the MarketThe past year has seen the consummation of several major securities initiatives in the Polish market. In April, the omnibus account concept was introduced, allowing clients’ assets to be grouped into one account and removing the need to provide client constitutive documents at market entry. In December, the National Depository for Securities (NDS) introduced measures into the Polish legal system that made “clearing novation” practical. Clearing novation is necessary to ensure that the central counterparty created by the NDS will be compliant with European Markets Infrastructure Regulation (EMIR) requirements.

In the spring of 2012, Citi also began offering a variety of SWIFT and other types of electronic reports for proxy voting. These include statistics on received proxy voting instructions and instruction status, email confirmation of how votes were cast and whether the resolution has been accepted or rejected, as well as a list of client securities accounts showing whether or not there is a valid proxy power of attorney in place.

Forthcoming initiatives include a change of the withholding tax procedures so that the custodian’s statement is used instead of copies of the Certificate of Tax Residency (CoTR). Draft procedures were submitted to the Ministry of Finance (MoF), which then issued a draft of new regulations. If approved, operational cost and risk in the market will be reduced. Separately, the MoF is also considering changes to Article 121 of the Law on Trading in Financial Instruments. If approved, this will enable full straight-through processing of trades at the NDS, local custodian and client levels.

Finally, Binkiewicz expects further development of the derivatives and fixed income markets. He points to a few exchange-traded notes and warrants as evidence of current activity, but notes that such activity is limited to a few issues. While the government bond market is quite significant, the corporate bond is still developing. “We have a growing corporate bond market, especially in terms of the number of issues,” he states, “but they are not as liquid as they could be.”


Market Entry: Don’t Go It AloneAs detailed above, Poland is a fairly hospitable environment to foreign investors and issuers. Just the same, investors and issuers alike can benefit from the expertise of a local partner.

In Poland, Citi has been at the forefront of the market’s evolution, and indeed, has helped shape it by chairing the Custody Banks Board, heading the Advisory Committee to the Central Securities Depository, and actively contributing to a number of working groups and steering committees. “We believe it is our responsibility to share our local market expertise and global market expertise to assist our clients,” asserts Binkiewicz. Not only has Citi advocated for market change, but the bank has also been early to implement new products and services. In April, Citi became the first bank to offer omnibus accounts.

Having a partner on the ground can increase the chances for success for new market entrants. Binkiewicz stresses that while Citi’s local presence has been critical, the firm’s experience throughout the region and across the globe has allowed it to bring best practices to bear in Poland. “We know what has worked,” stresses Binkiewicz, “and what has not in similar markets.” ■

In Poland, Citi has been at the forefront of the market’s evolution, and indeed, has helped shape it by chairing the Custody Banks Board, heading the Advisory Committee to the Central Securities Depository and actively contributing to a number of working groups and steering committees.


of 140 million people, and new wealth created from both natural resources and continued privatization, Russia should be able to move from consumption to savings and investment; so far, though, it has yet to happen. To wit, as of June 2012, Russia’s mutual fund market totals a mere $2.9 billion, or about half the size of Greece and just slightly larger than the Croatian market.2 While happy to be counted among the “BRIC” giants (Brazil, Russia, India and China), Russia’s fund market is dwarfed by even India, whose fund market is 30 times larger.3

How can this disconnect between wealth and consumer confidence on the one hand be reconciled with anemic growth in asset management? The answer is rooted not in stereotypical nihilism, but in pragmatism born out of experience. “The Russian population doesn’t believe in the future,” notes Alexei Fedotov, Director, Head of Securities and Fund Services Russia and CIS, “it is concerned with the present and the stability of the financial system.” Some 20 years ago, he explains, Russia had severe local crises in banking, leading to runs on banks, with depositors losing money. As a result, many individuals don’t trust banks or the ruble itself. Rather than saving via banks, “People put their savings in their pockets, or under the mattress,” observes Larisa Gorbacheva, Citi Securities Country Manager, Russia. “Those with a financial education do invest in local stocks,” she asserts, but a widespread equity culture has yet to develop.

Today, the picture has changed considerably. Russia’s geography provides an ability to connect Europe and Asia. Its deep natural resources not only fuel domestic growth, but allow Russia to hold a derivative on growth in other emerging markets. Moreover, its location also offers Russia the ability to capitalize on trade with Eastern Europe, as many of those economies continue to modernize.

Taken together, these factors are among those fueling continued growth in Russia. While the IMF’s forecast of 4% GDP this year may not match precrisis levels, most European nations would be ecstatic with those levels.1 Meanwhile, consumer confidence hit a four-year high in the second quarter, with consumer spending supporting further economic growth even in volatile times.

Nevertheless, these tailwinds have not translated into immediate growth in the financial sector. Critics of Russia have noted that commodities still dominate the economy, and express concerns about its future growth should oil prices fall. The good news is that regulators and government officials alike recognize these circumstances, and are prepared to do something about it.

Growth of Asset ManagementRussia seems to have many of the key ingredients for growth in financial services. With a middle class emerging from a population

RussiaFor centuries, the West has struggled to understand Russia. Even before the dark days of the Cold War, this huge empire stretching from Europe to Asia seemed mysterious and isolated, almost a continent of its own.

1Russia Needs Deep Reforms to Maximize its Growth Potential, International Monetary Fund, August 3, 2012.2The Cerulli Edge — Global Edition, Cerulli Associates, September 2012.3Ibid.

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GlobalizationIf globalization in the Russia market has been held back to this point, it has been more due to soft barriers. “In terms of foreign access, compared to the other BRICs, especially China and India,” Fedotov asserts, “Russia is relatively open.” There is no quota system for securities, and the ruble is fully convertible.

What is a stumbling block, particularly for foreign asset managers, is the settlement process. “Russia has an interesting history of ‘share registrars’ created during privatization in the 1990s,” Fedotov explains. At that time settlement was done on their books, but was quite complicated, with more than 500 registrars (today there are around 40) operating over Russia’s 11 time zones. “We have no fixed settlement cycle,” Fedotov elaborates, “The investor had to indicate the trade date, with settlement flowing through registrars.” Transfer orders to registrars were paper-based, needing to physically travel. Within greater Moscow, trades might settle T+3, but in the hinterlands, the cycle could run as long as T+15.

A second piece of the globalization story for Russia is one unfolding on the local exchange. Arguably, globalization is already taking place, but with flows headed in the wrong direction. “Sixty to seventy percent of Russian liquidity actually goes to the UK to list on the London Stock Exchange,” reveals Fedotov. Local companies believe they have much greater potential to raise capital and to be considered truly “global” by listing in markets such as London. However, local exchange reform begun two years ago is intended not only to stop the bleeding, but to make Moscow a true international financial center.

The other pillar yet to develop in Russia is the institutional market. While pension funds do exist, their growth has been disappointing. “Just look at Kazakhstan,” Fedotov points out, “They have a fantastic $18 billion pension system, yet Russia, with three times the population, does not.” Most Russian pensions are held in a state-owned Pension Fund, he explains, functioning more like a savings vehicle, investing in local government debt, with the pension needing an injection of cash from time to time, given the low returns earned on investments. Non-government trade groups, and mega-companies, such as Gazprom, also run pension plans that are slightly more flexible, yet equally conservative. “They look at performance annually,” Fedotov states, “not to measure performance of earnings, but simply to not lose money.” He estimates equity exposure at less than 1%. “Bizarrely, they cannot invest in a blue chip name like Gazprom,” he remarks, “but they can invest in microcaps in Siberia.”

Rather than saving via banks, “People put their savings in their pockets, or under the mattress,” observes Larisa Gorbacheva, Citi Securities Country Manager, Russia.


Next Steps for the MarketIf Moscow is to become a truly international financial center, it must complete a long “to-do” list. Fortunately, these efforts are already unfolding on several fronts, with specific goals of improving liquidity, harmonizing the infrastructure and attracting foreign investment.

Given the issues outlined above, market infrastructure remains a major area of focus. Here, significant initiatives are well under way, with the RTS (historically the electronic trading platform) and MICEX (classically the exchange for government bonds, FX and money markets) now finally merged into a single company (Moscow Exchange), and an IPO planned for 2013. Whereas the RTS was previously dollar-denominated, the market is moving to the ruble, as the currency has stabilized. “Moscow Exchange doesn’t want to lose to the LSE,” Fedotov states, “[so] it’s in its best interest to develop the local market. Developing the financial services sector has political appeal, since it will create jobs and help diversify the economy.”

Then there is the matter of changing local investor behavior. “There is a very big lobby in the market right now to allow pensions to invest in local, blue chip equities, foreign securities, investment funds, precious metals, etc.,” says Fedotov, “but it is a painful exercise.” A counter lobby is working against the initiative, and the Duma, or lower house, has reviewed the proposal and returned it for clarification. “If pensions are allowed to take a five-year time horizon and invest in blue chips, ADRs and UCITS funds,” Fedotov argues, “then they will have the potential to earn real money.”

Gorbacheva sees real progress on the retail side as well. “We believe that there is a strong effort and political will to develop Moscow as a financial center,” she claims, “and to develop the local investor base by increasing financial education.” She highlights Citi’s role in this process, working to improve financial literacy through online tools, seminars and roundtables.

Market Entry: Don’t Go It AloneWhereas Russia’s economic success has occasionally resulted in strong stock market performance, its asset management industry still remains nascent. With pension and infrastructure reform under way, and a major financial education push, Russia’s asset management industry could be at a turning point.

Foreign managers looking to Russia as a source or destination for funds should not expect instantaneous results. But for those managers who can take a long-term view, now might be a good time to begin the process of understanding the functioning of the local market.

Stressing the need for a local partner in emerging markets may sound cliché, but in Russia, that approach is especially true. Working with a retail public that looks first to the proverbial mattress as a savings destination can prove highly problematic. Building up investor trust in the financial system is predicated upon working with a local player. “We’re proud to say that Citi has received huge recognition for improving financial education,” Gorbacheva states.

Fedotov also cites Citi’s involvement with both regulators and senior officials from current and former governments. By invitation of Moscow Exchange (MICEX-RTS), Citi has participated in the exchange’s events in London and New York, and in individual meetings with more than 100 foreign investors to gather their expectations on the trading and post-trading environment in Russia. Citi is also represented on the Board of Directors of the National Settlement Depository (NSD) (finally licensed as Central Securities Depository in November 2012) and actively participates in regulatory discussions to improve liquidity and reduce investors’ expenses.

Finally, local partners can help separate fact from fiction. “Many managers still think of Russia in Cold War terms, invoking old stereotypes,” Fedotov observes. Citing the fact that many multinationals have made foreign direct investment in Russia, he urges, “We have to destroy the old perceptions.” ■

“We’re proud to say that Citi has received huge recognition for improving financial education,” Gorbacheva states.

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TaiwanLike its peer in the region, South Korea, Taiwan has elements of a developed market economy, even if some of the investable indices still classify it as emerging. At $875.9 billion, Taiwan’s real GDP makes it the 20th-largest economy in the world, more than twice as large as the economies of Belgium or Austria.1

It also enjoys a low 4.4% unemployment rate, and only 1.2% of the population lives below the poverty line.2 Taiwan’s GDP growth in 2012 is 1.1% accompanied by CPI of 1.8%. Taken together, these factors show that even under this challenging market momentum, Taiwan still offers a stable and healthy economy. As Citi Securities Country Manager Taiwan Hsiao-chi Wang puts it, “Taiwan is a developed Asian country that has an active and internationalized stock market, a stable FX rate and a low funding cost.”

1World Fact Book, Central Intelligence Agency, November 14, 2012.2Ibid.


Growth of Asset ManagementWhile Taiwan’s retail fund market has future potential, it has already enjoyed moderate success. At US$175.6 billion in mutual fund assets as of September 30, 2012, Taiwan’s fund market is already larger than more populous countries, such as India or Mexico.3

On balance, as GDP has grown, so too have financial assets in Taiwan. Taiwanese tend to own a mix of financial assets (stocks, bonds and deposits) as well as physical assets (including real estate and durables). However, widespread ownership does not necessarily translate into long holding periods: reflecting their fast-trading mentality, retail domestic investors account for 63% of all trading value.4

On the institutional side, Taiwan’s pension market is fast evolving. However, due to

concerns about scale and recent performance, the finance ministry has proposed merging four state-run pension funds — the Labor Insurance Fund, the Public Services Pension Fund, the Labor Pension Fund and the Postal Savings Fund. If approved, the merger would create a $240 billion sovereign fund, which would increase scale, and foster larger long-term investments.

In the meantime, there are some good opportunities for external managers. For example, the Public Service Pension Fund (PSPF) recently awarded six managers local equity mandates of NT$4 billion (US$135 million) each.5 PSPF also issued three US$200 million mandates for global emerging market debt in October.6

3SITCA, R.O.C., The Cerulli Edge — Global Edition, September 2012.4Securities and Futures Bureau.5“Taiwan’s PSPF Awards Six Local Equities Mandates,” Ignites Asia, November 23, 2012.6Ibid.

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GlobalizationIn terms of inflowing capital, Taiwan is relatively open to foreigners, particularly on the equity side. Taiwan has a registration process for investors that has been in place for more than 20 years, a process that China emulated, albeit more restrictively. By comparison, “In China, about 1% of equity market capitalization is foreign-owned,” observes Wang, “whereas in Taiwan, it’s closer to 30%.” Foreign participation in the bond market, however, is relatively quiet, as the Central Bank is concerned about foreigners investing in fixed income. Since local interest rates are currently very low, the Central Bank tends to view foreigners with fixed income positions as currency speculators.

The fund market is quite open to foreign firms. “Actually, it’s been so open as to almost be detrimental to the growth of the local industry,” notes Wang. As of 3Q 2012, there were 621 onshore funds holding US$60.0 billion in AUM, compared to 1,032 offshore funds totaling US$81.7 billion in AUM. A number of observers have pointed to Taiwan as a promising target for global managers.7 “Locals are fine with investing in offshore products,” states Wang, “[but] local asset managers are lobbying for assistance to level the playing field.” Whereas local managers are limited in what they can do, offshore managers spend more money on marketing and payments to distributors. Taiwan’s Financial Supervisory Committee (FSC) has tried to address this imbalance by encouraging new fund launches from onshore managers, and by requiring all funds to disclose commissions paid to bank distributors.

There are also signs that local-to-global flows are also on the rise. Starting in 2011, a number of Taiwanese managers received qualified foreign institutional investor (QFII) approvals, allowing them to invest in mainland Chinese A-shares. Taiwanese regulators also eased restrictions on local insurers, allowing these institutions to invest a greater portion of their assets in overseas markets.

Next Steps for the MarketWhether measured by the relative openness of the local market or by the high ratio of financial assets to GDP, it is clear that Taiwan is a fairly mature market. Nevertheless, there are a few additional developments on the horizon that could improve market efficiency.

First on that list are proposed changes regarding securities lending. Citi Taiwan is leading the effort in communication with the local tax authority for calculations on securities borrowing and lending (SBL) manufactured dividends. This initiative aims to address the current reclaim caused by different tax rates being applied to borrowers and lenders.

Corporate actions, or specifically, reporting on corporate actions, are another area for future development. Citi is currently developing a report that shows clients detailed information on uninstructed balances for voluntary events. Breakdown of the entitlement by settled and traded positions will also be provided, allowing clients to better monitor and reconcile their uninstructed position for voluntary events.

Longer term, alternatives remain an area to watch. Hedge fund sales to the general public are not permitted, and can only be accessed through foreign platforms or private placements. Private equity funds have raised assets solely through the pension market. And while real estate has been booming since 2003 (fueled in part by successful entrepreneurs from Hong Kong and mainland China), most of the interest has come in the form of physical property, as opposed to real estate investment trusts (REITs).

“Taiwan is a developed Asian country that has an active and internationalized stock market, a stable FX rate and a low funding cost.”

7 See for example, “Taiwan a good Asia entry point; India challenging,” Ignites Asia, April 27, 2012 or “Taiwan most promising Asia retail market: Cerulli,” Ignites Asia, February 1, 2012.


Market Entry: Don’t Go It AloneTaiwan is one of the most open markets in all of Asia, yet even here, asset managers would be hard-pressed to go it alone. For example, offshore asset management companies must engage a local master agent in order to sell funds to the general public. Private placement agents are also required for sales to sophisticated investors, and take responsibility for conducting Know Your Client (KYC) checks and suitability evaluations. Other service providers, such as law firms, consultants and asset servicers, can shed light on distribution dynamics and offer insight on institutional channels.

Citi is a leading player in market advancement efforts with active communication with regulators and infrastructures for market developments. In 2012, for example, Citi became the first custodian bank to complete system enhancements to connect to the Taiwan Depository and Clearing Corp (TDCC) platform, allowing brokers, banks and securities trust enterprises to exchange settlement details for trade matching purchases. “The Citi Taiwan team will keep focus on delivering client solutions with ongoing technology developments and continuing innovation on a number of industry regulatory and infrastructural issues,” states Wang. ■

Citi Taiwan is leading the effort in communication with the local tax authority for calculations on securities borrowing and lending (SBL) manufactured dividends.

38

TurkeyHaving posted GDP growth of 8.5% in 2011 and 9.2% in 2010,1 and with its sovereign credit rating upgraded to investment grade by Fitch in November 2012, it’s no surprise that academics and investment banks alike have highlighted Turkey’s compelling potential. Two of the acronyms du jour highlight Turkey’s strengths,2 and for much of the past two years, Turkey has been the biggest overweight for emerging market portfolio managers.3 Situated on the Bosphorus Strait, Turkey has historically enjoyed a strategic position, one that continues to this day as a bridge between Europe and Asia.

If local investing still remains a work in progress, globalization is alive and well in Turkey.

1The World Bank.2Managers Turn to Iraq, Other Frontier Markets, Fund Fire, June 28, 2011.3Thailand replaces Turkey as most-backed emerging market, Citywire Global, April 27, 2011.


Despite its recent success, Turkey’s development on the capital markets front has not kept pace with its significant economic growth. “Since the early 2000s,” notes Gunsel Topbas, Securities Country Manager, Turkey, at Citi Securities and Fund Services, “GDP has tripled, but market capitalization has not.”

On the bright side, regulators and market advocates are keenly aware of the work that needs to be done. Already open to foreign investment, Turkey needs to do more to overcome cyclical and structural factors in its own local investment base. Finally, Turkey expects to leverage its strategic position to its advantage, moving from a local player to a regional powerhouse.

Growth of Asset ManagementWith $15.6 billion in assets under management as of June 2012, Turkey’s mutual fund market is considerably larger than Russia’s ($2.9 billion), and slightly smaller than Poland’s ($25.4 billion).4 Compared to economic data, such asset levels reflect just 2% of GDP, suggesting room for further growth. Moreover, a significant portion of existing mutual fund assets are parked in money market funds, reflecting more of a short-term savings culture than an investing one.

Turks’ preference for savings vehicles over investment solutions stems from their experience with unstable price levels. “For almost three decades, until the 2000s, Turkey had at least 50% inflation per annum,” Topbas explains, “and people went along with this as if it was a normal way of life.” Accordingly, interest rates were very high, the Turkish lira was weak and the market became “dollarized.” “The investment appetite was limited to foreign currency,” Topbas notes, “or, if anything, government bonds, where you could earn 60%–70% returns.” Even if real interest rates were low, he elaborates, such yields provide individuals with illusory growth on their bank statements.

Most individuals are not familiar with investment products, but a number of factors suggest that this could change. Interest rates have come down to single digits, and the local currency has strengthened. Government bonds are no longer the highest-yield instruments for local investors; and with the increased wealth in the country, investors are now seeking higher-yield instruments. Topbas sees a number of newly created fund management companies springing up, but cautions that the transition into an investment culture will take time. “Investment habits shaped over three decades of inflation won’t fade away overnight,” he warns.

GlobalizationIf local investing still remains a work in progress, globalization is alive and well in Turkey. A long-pending EU-membership has helped drive foreign direct investment, which reached $99 billion in 2011.5 Ironically, both Turkey’s transformation from a fragile

economy to a sustainable outperformer and Europe’s continued struggles have led local support for EU-membership to drop to a record low of 17%.6 “Turkey’s economic figures by and large weren’t EU-eligible under the Maastricht Treaty,” Topbas remarks. “Now, things have changed dramatically,” he states, and Turkey complies with most criteria, while many EU countries struggle.

While becoming an international financial center remains an intermediate-term goal, there is ample evidence that Turkey is already becoming a regional center.

4 The Cerulli Edge—Global Edition, September 2012. 5“The World Fact Book,” Central Intelligence Agency, September 21, 2012.6Turks to European Union: “No, Thanks,” The Wall Street Journal, August 29, 2012.

40

In terms of securities ownership, Turkey is already an open market. Other than ownership limits of 50% in sectors such as media and banking, there are no major restrictions on foreign investors. About two-thirds of investable assets are foreign owned, according to Topbas. Fixed income is increasingly an area of interest for offshore investors, and for good reason. Compared to Western markets, interest rates are still relatively high, with sovereign credit rated investment grade by Fitch, just one notch away per Moody’s, and two notches away per S&P. “With the local debt becoming investment grade,” Topbas states, “there will be a further increase in interest from pension funds.”

Foreign investors are attracted to the Turkish market due to the sophistication of its infrastructure. As the Istanbul stock exchange was only established in 1986, it operates with fully electronic settlement. Trading is quite liquid, with the bulk of it sourced from local investors, despite their lower share of ownership. “Foreigners are mostly buy-and-hold,” Topbas explains, “whereas local investors are mainly retail and a bit more like day traders.”

Next Steps for the MarketTurkey’s economic stabilization and its ability to attract foreign investment lead Topbas to describe the country as “a mature emerging market.” For Turkey to further continue moving from savings to investment, it needs to further develop its sourcing of capital.

While becoming an international financial center remains an intermediate-term goal, there is ample evidence that Turkey is already becoming a regional center. “Istanbul has a unique history as a bridge for flows and merchant activity,” observes Topbas. The local stock exchange has signed a Memorandum of Understanding with the Egyptian Stock Exchange, and has inked a similar agreement with the Moroccan Exchange. Turkey also heads the Federation of Euro-Asian Stock Exchanges, which attempts to bring together a series of markets reaching from Albania to Mongolia.

Turkey’s economic stabilization and its ability to attract foreign investment lead Topbas to describe the country as “a mature emerging market.”


Looking inward, there is also work to be done. Topbas estimates that of the 500 largest companies in Turkey, only 150 are publicly traded. Officials are keenly aware that market capitalization has not kept up with GDP growth, and are encouraging more initial public offerings (IPOs). The fixed income market is also evolving beyond sovereign issues. A nascent corporate bond market is taking root, having been previously “crowded out” by high interest rates on sovereign debt.

With a 40% debt-to-GDP ratio, Turkey remains quite attractive when compared to its neighbor Greece (aspiring to 120% by 2020), or much of Europe, but some would-be investors are concerned by its current account deficit. This deficit largely stems from being one of the few countries in the region without oil and natural gas reserves, but Topbas sees a silver lining here. “This is unfortunate,” he concedes, “yet it forces Turkey to produce for export,” arguably strengthening and diversifying the local economy.

Market Entry: Don’t Go It AloneThe success of the Turkish economy is no longer a secret. Even as some European insurers pull back due to troubles at home, Middle Eastern banks are taking their place. Foreign and local players alike are banking on growth in the financial sector.

On the other hand, raising assets may prove challenging for those trying to go it alone. Topbas stresses the importance of relationships and the need to work with local partners. “In this part of the world, you can’t just sell on price,” he warns, “you need partnerships founded on mutual trust to get things done.” He stresses Citi’s access to top leaders at the stock exchange, central bank and the central securities depository.

There is little doubt that there is work to be done in terms of growing Turkey’s asset management industry. Even as retail investors begin to move beyond fixed income, a growing pension market is grasping with the same asset allocation change.

Citi’s strategy, explains Topbas, is to stay close to the clients and offer them meetings with key representatives from the local market infrastructure. “We are always involved with key meetings with regulators,” Topbas states.

There is little doubt that there is work to be done in terms of growing Turkey’s asset management industry. Even as retail investors begin to move beyond fixed income, a growing pension market is grasping with the same asset allocation change. That being said, the country’s continued globalization, and the further development of its capital markets are very encouraging. Allied with a local partner with on-the-ground experience, foreign players are expected to increasingly view Turkey as both a destination and source of funds. Topbas is quite certain that Citi can play a key role leading local and foreign players through Turkey’s transformation. “We’re not only involved with many market developments,” he asserts, “but we play a key role in making them happen.” ■

About Network 3.0Network 3.0 is a focused program of new products and services to accelerate Citi’s development of the next generation gateway to more effective investing. Network 3.0 leverages Citi’s global banking network and deep reserve of local market expertise to transform how investors seamlessly interact with markets across regions, borders and time zones.

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