CSRC Bans Collective Entrusted Investments

With the fast growth in China's capital markets, the country's banking, securities and trust industries have shown a marked interest in developing new financial products in order to gain greater market share. However, as
the markets are immature, the legal framework is not well developed, and the governing authorities are not very experienced in regulating many new financial products, many such products have been banned or suspended by the Chinese government shortly after they make an appearance. In the latest move, on April 29 2003 the China Securities Regulatory Commission (the CSRC) banned collective entrusted investment management businesses (Collective Businesses) by publishing the Issues Relevant to Securities Companies' Engaging in Collective Entrusted Investment Management Business Circular (关于证券公司从事集合性受托投资管理业务有关问题的通知) (the Collective Business Circular).

On November 28 2001, the CSRC issued the Regulating the Entrusted Investment Management Business of Securities Companies Circular (the Business Circular), which defines such a business as that in which the qualified securities company, as the trustee, enters into the entrusted investment management contracts with the settlors, and uses their assets to conduct investments in stocks, bonds or other financial products. In essence, the business as defined therein contains almost all elements of a trust as described in the PRC Trust Law (中华人民共和国信托法). The difference is that the trustees in this case are qualified securities companies and the entrusted property is confined to currency or legal securities. Although the Business Circular does not expressly prohibit or restrict a Collective Business from being undertaken, considering the complexity entailed when a large number of settlors are concerned, the CSRC requires that all collective entrusted investment projects initiated by qualified securities companies in the stage of public or private offerings must be promptly ceased and no new projects may be launched until the CSRC issues administrative procedures that focus on this matter specifically. Regarding projects that are in the operational phase, the Collective Circular imposes several requirements on the relevant securities companies to regulate their operations. Among these are prohibitions on explicitly or implicitly guaranteeing the yield of projects; they can only be estimated on a provisional basis. Investors must be aware that they bear all the investment risks and that all concerned securities accounts and funds accounts shall be maintained under the custody of the commercial banks qualified as custodians of securities investment funds.

Similarly, several months ago the People's Bank of China warned China's trust sector to rein in the many collective trust projects launched nationwide. Although the warning lacked any public or formal directive, it set a precedent. It is likely that the regulators in other financial sectors will soon commence standardization of similar collective projects if it is seen that they are being abused. Thus the measure adopted by the CSRC is not unexpected. From a legal perspective the critical issue is that the relevant legislation remains unclear on the legal status of the projects. Does each separate entrustment under a project constitute a discrete trust arrangement under the Trust Law?