SFC finalises retail fund reforms adding VaR and stronger liquidity safeguards

Hong Kong’s Securities and Futures Commission has finalised changes to its retail fund framework that add a Value-at-Risk route for derivative exposure, strengthen liquidity management and ease some operating requirements. The decision was announced on 7 October after consultation on amendments to the Code on Unit Trusts and Mutual Funds.[1]

The conclusions identify 1 November as the tentative effective date following gazettal. The announcement scheduled 16 October gazettal for consequential amendments to four other codes: pooled retirement funds, MPF products, investment-linked assurance schemes and real estate investment trusts, with effectiveness on 1 November.[2][1]

A different way to measure derivative risk

VaR models a potential loss over a specified horizon and confidence level. Relative VaR compares a fund with a reference portfolio, so the 200% limit means twice the modelled risk of that portfolio. The method allows portfolio relationships to enter the risk measure, with assumptions, data and validation becoming part of the manager’s control framework.

Hong Kong-domiciled funds need prior SFC approval to adopt VaR. Qualifying SFC-authorised UCITS using VaR or the commitment approach at home receive deemed compliance with the derivative-exposure limit. The SFC retains discretion to classify products as complex.[2]

Redemption terms and costs become central

Daily-dealing funds invested mainly in less-liquid assets must implement and use anti-dilution tools. Funds with significant illiquid holdings may accept daily subscriptions but cannot offer daily redemptions. All SFC-authorised money market funds must maintain at least one anti-dilution tool.[2]

IOSCO’s liquidity guidance explains the underlying mechanism: purchases and sales made to accommodate investor flows generate transaction and liquidity costs. Anti-dilution tools allocate those estimated costs to investors entering or leaving, using mechanisms such as adjusted dealing prices or levies. The aim is to protect investors who remain in the fund from bearing the cost of others’ transactions.[3]

Consider an illustrative redemption requiring HK$5 million of asset sales with estimated liquidity costs of 0.2%. Those assumptions imply HK$10,000 in costs. If the outgoing investor receives the unadjusted value and the fund absorbs the expense, remaining holders bear it. An appropriately calibrated adjustment changes who pays; it does not create the liquidity needed to sell an otherwise illiquid asset.

For distributors, the practical consequences appear in three customer terms: when a redemption can be requested, when cash is delivered and how an anti-dilution adjustment affects the proceeds. Those terms need to reflect the liquidity of the assets the fund holds.

The SFC may allow non-complex funds to exceed the 15% limit for illiquid investments case by case, provided portfolios can support full monthly redemptions without a redemption cap. This ties greater private-market access to the ability to honour a specific exit promise.[2]

Mandatory transition and optional flexibility follow different paths

New schemes generally comply from effectiveness. Existing schemes receive 12 months for liquidity management, money-market-fund rules and offering-document disclosures. Derivative, personnel and feeder-fund flexibility can be used from effectiveness, subject to conditions.[2]

Managers therefore have two work programmes. Existing products need the mandatory liquidity, money-market and disclosure changes within the applicable transition. Separately, a manager can assess whether VaR, personnel or feeder-fund flexibility improves its strategy or operating structure enough to justify the approval and implementation work.[2]

The SFC said supplementary guidance, FAQs and revised templates would follow. Those materials will be important for the approval process and the disclosures through which intermediaries explain the revised products to investors.[1]

Report an error or submit an update