As the world's most populous nation, and one that is also ageing rapidly, China is working hard to reform its pension system, and those changes are closely linked to the capital market.

More pension funds are expected to be invested in bourses as a result of the entry of the nation's central social security reserve fund to the stock market. Here, they are supposed to have access to more diversified investment tools that may bring better and long-term returns.

But that hinges on having qualified and sufficient investment managers for these funds, something that is not proving easy for China's young fund managers.

Chen Jun, deputy manager of the Beijing Branch of Shenzhen-based Boshi Fund Management, sees the management of pension funds as a prime target for competition among fund managers in the coming years.

"The volume of such pension funds will increase steadily, so the demand for professional management agencies will also rise," Chen pointed out.

"These enterprises are really stable and rich customers," he said.

Boshi has applied to the Ministry of Labour and Social Security to obtain an investment manager and trustee's licence for occupational pension funds. The company has invested a great deal in research and studies about China's occupational pension fund system since 2001, when it launched a joint research project with the Social Insurance Research Institute, an academic body attached to the labour ministry.

But the company has many competitors applying for the same licences, not just fund management companies, but also insurers, securities houses and trust firms. Some banks are also applying to be the custodians of pension funds.

"We are expecting the labour ministry to issue the first batch of licenses for occupational pension fund management in the middle of this year," said Chen, "Then the winners can implement the investment for the funds."

Retirement benefit

Occupational pension, a supplement to the basic pension and commercial retirement insurance in China, is voluntarily provided by enterprises for their staff as a retirement benefit. Labour ministry statistics said around 7 million people in China were covered by occupational pension schemes by the end of 2003, with the scale of occupational pensions reaching 50 billion yuan (US$6 billion) by the end of last June.

Global consulting firm McKinsey predicts that this scale is expected to grow by an annual rate of 29 to 44 per cent over the next five years.

"In the past, we mainly sold funds to the general public, but such one-to-one private investment products for institutional customers are beyond our reach," said Chen Jun from Boshi Fund Management.

Some trust companies, insurers and securities houses were luckier to take part in the pension fund management business at an earlier date.

Shanghai Huabao Trust and Investment Co, a subsidiary of steel giant Baosteel, has been helping with the management of the steel company's pension funds since 2002.

Trust projects especially designed for certain firms' occupational pension funds are also popular choices among many trust companies seeking to widen the scope of their business.

Insiders also said that some securities companies are also trying to provide investment services for occupational pensions. Insurers are also eyeing up this business.

Supervision rules

In order to set more standards in the business and stamp out irregularities, China's labour ministry has drawn up a series of regulations over the past year to supervise the management of occupational pension funds. These include several guideline documents on investment procedures and qualifications for relevant fund managers issued last month.

Analysts say that this legal preparation indicates that these occupational pension funds will enter the stock market very soon.

But it is not the first time that social security funds have invested in stocks in China.

As early as 2003, the National Council for Social Security Foundation, an agency directly supervised by the State Council, managed more than 130 billion yuan (US$15.7 billion) of central reserve funds for future social security use, and had already recruited six domestic fund managers to help it invest part of the money in equities, funds and bonds.

It selected a further 10 investment managers last year, including some securities houses and joint venture fund companies, to further expand the investments.

But the majority of pension funds supervised by the labour ministry, which are used to cover current pension expenses, currently remain outside the stock market.

Only a handful of local occupational pension fund operators, such as in Shanghai, have tried their luck on the stock market.

It is necessary for the regulators to design relevant investment procedures and qualifications primarily to ensure the safe and prudent investment operation of these pension funds, which many people rely upon, said Jiang Jianrong, an analyst from Shenyin & Wanguo Securities.

The Ministry of Labour and Social Security's legislative efforts over the past year are an essential aspect of such preparations, she pointed out.

Apart from the enterprise that authorizes the investments, the investment of these occupational pension funds will involve four parties - trustees, custodians, investment managers and account managers.

Banks will normally be the custodians, given the legal requirement for a minimum 5 billion yuan (US$603.9 million) in net assets, but the other three roles can be assumed by various corporations.

In order to set up a firewall between these bodies, the rules prevent an institution from being the investment manager and custodian at the same time or from holding stakes in each other.

But, if it is qualified, a trustee will simultaneously be the investment manager and the account manager, but is required to separate the entrusted pension funds from the other assets it manages.

It is rare for a single institution to be qualified for all four positions, said Chen Haifeng, head of the institutional investment management department of Fortune SGAM Fund Management in Shanghai.

Each company will therefore apply for the licence it thinks it is in the best position to obtain. For fund management companies, investment management is their strongest point, he said.

A number of fund management companies, including Boshi and Southern, have established special departments for investment management for institutional clients like pension funds, with tailored investment products, procedures and risk-control schemes.

Low-risk and long-term investment tools are expected to account for a major proportion of the portfolio.

In equity investments, pension fund would follow a more conservative investment style and the emphasis would be placed on long-term returns rather than speculation. Blue-chips and companies with stable dividend payments will be preferred, according to Zheng Wenxiang, director of the pension fund and corporate investment management department of Southern Fund Management.

In order to rein in risks, the authorities have established a 30 per cent cap for the ratio of occupational pension funds that can be used for the purchase of equities, equity funds and investment-linked insurance products.

The maximum ratio of funds used to buy convertible bonds and bond funds is capped at 50 per cent. And at least 20 per cent of the occupational fund should be used for treasury bonds.

But the exact investment scheme may vary from enterprise to enterprise and fund managers can adjust their investment according to client demand, analysts said.

To help investment projects operate more smoothly, some analysts also noted that China's overall occupational pension policy requires further consolidation.

For example, relevant tax policies should be amended and clarified to offer more incentives for both occupational pension operators and investment managers, said Jiang Jianrong from Shenyin & Wanguo Securities.

The system also requires improved co-ordination among various government departments and regulators to improve the overall efficiency of supervision.