Time to shine the light on rebates
FOR too long, the subject of commission rebate was one of the skeletons in the Hong Kong financial markets' cupboard. Everyone knew it was there, many did not want it exposed to the light.
Now the Securities and Futures Commission (SFC) has thrown open the door, and the subject will get a much overdue and, hopefully, thorough airing.
The SFC has been brutally blunt in its view of what should happen to rebates in Hong Kong. They should go, and as soon as possible, it thundered yesterday. Many might forget that the words were in a discussion document, rather than an action plan, but there will be some mighty support around the market for this unequivocal line.
There will also be some agonised groans from those fund managers who apparently rely on the kick-backs to pay the rent and the salaries, and make up their cut-price management fees.
For them the proposals could hardly have come at a worse time. Fees are of little consequence in times of booming markets. Last year, the sheer momentum of Asian markets in general, and Hong Kong in particular, would have easily disguised any effects on performance that charges would impose.
This year, all is changed, and some investors are going to see mediocre performances worsened by the costs incurred in investing their money. They will be well aware of how much or how little they have made on their investments; what they will not know, in most cases, is how much the manager made from taking rebates on the commissions charged to brokers.
Nor will they know how much of the portfolio was being churned, with the resultant increases in the cost base, for no other reason than to generate some more rebate to subsidise the manager's costs. (Or to boost the bonus pool of an integrated house).
They will be equally ignorant if the deals being executed on their behalf are being made at the best possible prices, and thinnest available spreads. The Standard Chartered debacle has illuminated all too clearly the abuses that can be heaped on share dealing.
How does the man in the street know that the management charges and execution arrangements are the leanest and meanest available? The answer is that he doesn't. Pension funds or other large discretionary investors may well be protected by an Investment Management Agreement (IMA) which sets out in fine detail the rules on rebates, but the SFC says that many of the funds in existence work on outdated IMAs which have no such clauses.
What the commission is seeking to do is to bring a new level of transparency to Hong Kong fund management, so that investors have a much better chance of judging and comparing performances. If it succeeds, it will have struck a blow for improved professionalism and trust in the territory's managers, just when it will be most needed.
The introduction of the automatic matching system will add another dimension to this transparency. It is getting much easier to check whether deals were indeed executed at the best possible price, or whether some unfortunate ''delays'' in passing orders back to the floor meant that they just missed out on the best buy or sell price.
The suspicion would always be that the broker, or individual dealer, benefited from a favourable move, while the client gets lumbered with less than best prices. Investors need to know that their managers are alert to execution performance.
Less surprising than the SFC's drive to have rebates outlawed is its call for a Hong Kong rule book for soft dollar dealers.
No proud father was ever more suspicious of his favourite daughter's tear-away boyfriend than regulators are of the soft commission gang. But each time the Securities and Investments Board in the UK, the Securities and Exchange Commission in the US and, more recently, the Australian Investment Managers Group have poked and prodded soft dollar deals, and come away with the conclusion that they can be allowed, as long as they are correctly controlled.
So with the SFC and Hong Kong. Soft commission deals will be subject to standards which will set out to ensure that the goods or services made available under soft dollar deals are of demonstrable benefit to investors and obtained at fair prices, and that the execution of transactions are the best available.
There will also have to be disclosure of what soft dollar arrangements have been made in the funds' regular reports to clients.
As with commission rebates, it is the right of the investor to know, and the duty of his manager to provide the information on how the arrangements in place are contributing to the overall performance of the portfolio, and how much to the profitability of the manager.