The Alternative Investment Management Association

Alternative Investment Management Association Representing the global hedge fund industry

China’s investment funds opening - Strategic plan or tactical responses to a deepening gloom?

By Brian D. Beglin, Xiaowei Ye, Ann-Marie Godfrey and Jin Wang of Bingham McCutchen LLP


Q4 2012 edition

The past year has seen major moves by Chinese regulators to lift barriers to foreign capital and foreign investment funds. Among these new programs have been:

  • December 2011’s RMB Qualified Foreign Institutional Investor (RQFII) program allowing Chinese RMB raised in Hong Kong by Hong Kong subsidiaries of Chinese fund management and securities companies, including those with foreign joint venture partners, to be invested in China’s domestic securities markets;
  • March’s new program launched by the Shanghai municipal government permitting certain hedge funds to raise RMB locally for investment in offshore secondary markets;
  • April’s enlargement of issuable investment quota under the RQFII program from RMB 20 billion (US$3.2 billion) to RMB 70 billion (US$11.1 billion); and the simultaneous increase of issuable investment quota from USD 30 billion to USD 80 billion under its Qualified Foreign Institutional Investor (“QFII”) program pursuant to which qualifying offshore funds can convert foreign currency into RMB for investment China; and
  • July’s new QFII regulations relaxing that program’s entry criteria for foreign managers, and reducing operational constraints, expanding the scope of permitted investments and simplifying and facilitating administrative processes for QFII license holders.

Some observers see these steps as part of an over-arching strategic plan for structural reform of China’s financial sector. Others characterize them as piecemeal responses to China’s deepening economic problems. While the debate may be interesting, it misses the critical point - the opportunities to access China’s investment markets are greater than they have ever been with further market opening steps likely, making now a very good time for money managers with a long term China strategy to take the plunge.

The RQFII Program

The RQFII program was announced jointly by the Chinese Securities Regulatory Commission (CSRC), the People’s Bank of China, and the State Administration of Foreign Exchange on 16 December 2011. It allows Chinese RMB raised in Hong Kong by Hong Kong subsidiaries of Chinese fund management and securities companies, including those with foreign joint venture partners, to be invested in China’s domestic securities markets.

While the investment quota is relatively small and the program is currently limited to Chinese fund management and securities companies, this program could well be expanded to non-Chinese funds and securities firms inasmuch as it represents a further step toward China’s long term goal to increase the attractiveness of RMB as an international currency and comes at a time when China’s “A” share stock market is at a 3.5 year low and foreign exchange is flowing out of mainland China.
Programs for Private Equity and Hedge Fund Managers to Raise Capital in China
There are limited options under the PRC central-level legal regime available for (i) offshore fund managers seeking to raise capital onshore and (ii) Chinese investors wishing to invest in offshore secondary markets. 1

As part of its effort to become a leading international financial centre, Shanghai has adopted two independent sets of local rules permitting the establishment of Foreign Invested Equity Investment Enterprises (FIEIEs) and Overseas Investment Fund Enterprises (OIFEs). Eligible offshore fund managers can establish FIEIEs and OIFEs in Shanghai to raise capital locally, and act as managers of these two types of funds. FIEIEs are allowed to invest in non-listed enterprises in China and OIFEs are allowed to invest in offshore secondary markets.

The FIEIE program is more commonly known as the “QFLP Program” and the OIFE program is more commonly known as the “QDLP Program”).

1. Shanghai’s FIEIE Program 

Shanghai’s FIEIE program, launched in December 2010, allows foreign enterprises and individuals to establish Shanghai-registered private equity funds to raise capital locally for investment in non-listed companies in China.

Under the FIEIE program, a qualified foreign investor can establish a FIEIE and a Foreign Invested Equity Investment Management Enterprise (FIEIME). A FIEIE with no more than 5% foreign capital has been deemed by the Shanghai authorities to be a domestic entity. However, in April 2012 the National Development and Reform Commission issued a notice (the “NDRC Notice”) stating that all FIEIEs will be deemed to be foreign funds for investment restriction purposes2 regardless of their percentage of foreign capital. 

Until the NDRC Notice was issued, it was clear that a FIEIME could use its foreign capital to make contributions to its FIEIE, and the FIEIE could convert the foreign capital into RMB for its equity investment projects. It is now not entirely clear whether the favourable foreign exchange treatment of FIEIEs will continue to hold, as the basis for the favourable foreign exchange conversion regime has been that the Shanghai authorities deem the FIEIEs to be domestic entities so long as they met the 5% foreign capital limit.3

The following diagram illustrates the structure of a typical FIEIE.

Bingham - FIEIE Diagram-web
The key attributes of the FIEIE program are as follows:



The FIEIE program


Eligible Foreign Investors / Fund Managers

An investor / fund manager must have:

a)    At least US$500 million of self-owned assets or US$1 billion of assets under management; and

b)    A sound governance structure and a comprehensive internal control system, without having been sanctioned in the most recent two years; 

The applicant (or its affiliate) must also have:

a)    At least five years of relevant investment experience; and

b)    At least three years’ experience investing in enterprises registered in China.4


Eligible Chinese Investors

Any individual or other legal person.

There is no mandatory requirement on Chinese investors’ minimum percentage of ownership interests in a FIEIE fund.


FIEIME Registered Capital5 (or Committed Capital6)

No less than US$2 million, to be paid in cash.



FIEIE Registered Capital (or Committed Capital)

No less than RMB 100 million (US$15.9 million), to be paid in cash.

No less than RMB 5 million (US$800,000) with respect to the contribution by each individual investor.


Prohibited Business Activities

a)    Investing in sectors where foreign investors are prohibited to invest (see note 2 supra).

b)    Trading in listed shares or enterprises’ bonds in the secondary market, other than shares of a portfolio company acquired by such FIEIE before the portfolio company was listed.

c)     Trading financial derivative products.

d)    Investing in non-self-used real property.

e)    Providing loans or guarantees to others.


2. Shanghai’s OIFE Program

The OIFE program, approved by the Shanghai Municipal People’s Government on 22 March 2012, allows internationally-recognized fund managers to establish Shanghai-registered investment funds to raise capital locally for investment in offshore secondary markets (which would presumably include acting as a feeder fund to an offshore Cayman fund). At the present time, only a small number of selected internationally-recognized hedge fund managers have been invited to participate in the OIFE program.7 Under the OIFE program, Qualified Domestic Limited Partners (QDLPs) and an Overseas Investment Fund Management Enterprise (OIFME) can jointly establish an OIFE.

The following diagram illustrates the structure of a typical OIFE:

Bingham - OIFE Diagram-web


Although the attractiveness of the FIEIE program has been weakened by the NDRC Notice and considerable uncertainties with respect to the OIFE program remain due to the lack of publication of the regulations, the two programs still represent valuable opportunities for foreign fund managers who wish to raise capital within China and establish a beachhead for further growth in China. 

China Adopts Final Rule to Ease Regulation on QFIIs

After the available quota under the QFII program was raised from US$30 billion to US$80 billion in April 2012, the CSRC on 27 July 2012  published a new QFII regulation (the “New QFII Regulation”) that substantially liberalized the QFII regulation that had been in effect since 2006 (the “Old QFII Regulation”).

1. QFII Eligible Institutions Expanded

The Old QFII Regulation limited foreign institutions eligible for the QFII program to fund management institutions, insurance companies, securities companies, commercial banks and other institutional investors (such as pension funds, charitable foundations, endowments, trust companies, sovereign wealth funds, etc.). According to reports on the CSRC’s website quoting a responsible CSRC official8, private equity investment firms now can apply for QFII licenses under the new “asset management institutions” category. The CSRC has broad discretion to decide which institutions will be deemed “asset management institutions.” That said, we believe it unlikely that hedge funds will be allowed to participate in the QFII program in the near term.


2. QFII Market Entry Criteria Lowered

The New QFII Regulation substantially lowered the market entry criteria.


Old QFII Regulation

New QFII Regulation

Asset Management Institutions

Asset Management Experience: >5 years


Securities under management: >US$5 billion

Asset Management Experience: >2 years


Securities under management: >US$500 million


Insurance companies

History: >5 years


Securities held: >US$5 billion

History: >2 years


Securities held: >US$500 million


Securities companies

Securities Business Experience: >30 years


Paid in capital: >US$1 billion


Securities under management: >US$10 billion


Securities Business Experience: >5 years


Net assets: >US$500 million


Securities under management: >US$5 billion

3. New Products Eligible to QFIIs

According to the New QFII Regulation, the products eligible for investment by QFIIs have been substantially expanded and now include:

  • Stocks, bonds and warrants traded or transferred on the Shanghai and Shenzhen Securities Exchanges (the “Stock Exchanges”);
  • Fixed income products traded in the Inter-bank Bond Market (the “IBBM”);
  • Securities investment funds;
  • Stock index futures; and
  • Other financial instruments approved by the CSRC.

The New QFII Regulation allows QFIIs for the first time to invest in fixed income products traded in the IBBM (China’s largest and the world’s third largest bond market), which previously was accessible only to limited foreign institutional investors (notably foreign banks). Fixed-income products traded in the IBBM include (i) bonds, (ii) asset backed securities issued by financial institutions and (iii) asset backed notes issued by non-financial enterprises. Opening the IBBM to QFIIs may not only enable QFIIs to improve their performance and attract more foreign capital by diversifying their investments, but may also indirectly stimulate the IBBM.

The New QFII Regulation has also expanded the old category of “products traded on the Stock Exchanges” to “products traded and transferred on the Stock Exchanges.” This expansion aims to include privately placed small and medium enterprise bonds that are issued and transferred (rather than traded) on the Stock Exchanges.

4. Shareholding Ceiling Raised

The New QFII Regulation raises the ceiling for aggregate shareholdings of all foreign investors in the “A” shares of a listed Chinese company from the 20% to 30%. The ceiling for the shareholding of a single foreign investor in the total share capital of a listed Chinese company remains at 10%.9

5. Securities Accounts10

The first draft of the New QFII Regulation sought to remove the ambiguity surrounding the ownership of assets held by a QFII for itself and its clients. The draft expressly required a QFII to open separate segregated securities accounts for its and its clients’ capital and further clarified that assets in accounts opened for QFII clients would belong to the clients and would not be the property of the QFII or its custodian.

These positive efforts were partially cut back by the final version of the New QFII Regulation. Under the New QFII Regulation, (i) a QFII is required to open separate segregated securities accounts for its and its clients’ capital, and (ii) assets in the segregated accounts of QFII’s long-term fund clients belong to the long-term fund clients and are not the property of the QFII or its custodian, but (iii) the ownership of assets in segregated accounts opened for QFII clients other than long-term fund clients remains unclear. It remains to be determined whether this different treatment was intentional.

6. Engagement of Multiple Securities Companies by QFIIs

QFIIs have been theoretically allowed to engage up to three securities companies to trade securities in each of the Stock Exchanges. In practice, however, a QFII could only engage one security company in each Stock Exchange because (i) each QFII is only allowed to open one special RMB account and (ii) the Old QFII Regulation required a one-to-one correspondence of the securities account with the special RMB account. The New QFII Regulation abandons this one-to-one correspondence, thereby effectively permitting QFIIs to engage multiple securities companies.




[1] Those limited options primarily refer to (i) the foreign invested venture capital enterprises program, which allows foreign investors to establish locally offered venture capital funds that will be primarily engaged in investments in high and new-tech start-up enterprises and (ii) the only marginally successful Qualified Domestic Institutional Investor (“QDII”) program, which allows Chinese investors, through Chinese QDII firms, to indirectly invest in offshore secondary markets.

[2] With respect to foreign investment projects in China, all industries are classified by the Foreign Investment Industrial Guidance Catalogue into four categories: “encouraged,” “permitted,” “restricted” and “prohibited.” 

[3] In the absence of a foreign investor qualifying as a domestic entity under the FIEIE program, the conversion of foreign currency into RMB for investment in non-listed Chinese companies is not permitted under the national foreign exchange rules except in certain limited cases (e.g. under the foreign invested venture capital enterprise program (see note 1 supra)).

[4] Investments in enterprises in China through a VIE (variable interest entity) structure could be deemed as “indirect investment” in enterprises in China.

[5] “Registered capital” is the concept under the PRC Company Law which refers to the equity capital of a company.

[6] “Committed capital” is a concept under the PRC Partnership Enterprises Law, and “committed capital of a partnership” refers to the capital subscribed by all partners to the partnership.

[7] Although the regulations establishing the OIFE program have not been publicly released, it is generally understood by people familiar with the OIFE program that the purpose is to attract hedge fund managers to establish hedge funds in Shanghai. It is also generally understood that the text of the unpublished regulations does not limit the OIFE program to hedge fund managers, which may eventually permit the OIFE program to be made available to a wider category of fund managers seeking to establish “investment funds” that can raise capital in China for investment offshore.

[8] See

[9] Neither the 30 percent ceiling nor the 10 percent ceiling applies to strategic investments made according to the Administrative Measures for Foreign Investors’ Strategic Investment in Listed Companies.

[10] We note that securities regulators in the United States interpret the reach of their own jurisdiction broadly, including in connection with “broker-dealer” and “investment adviser” activities. To the extent a QFII is a US institution, Chinese securities firms, custodial banks and fund management institutions should consult with experts in US securities regulations to ensure that accounts for QFIIs are solicited and established in a manner that complies with US regulatory requirements.

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