Investment management of the Exchange Fund

Transcription

1 Investment management of the Exchange Fund The HKMA manages the Exchange Fund on behalf of the people of Hong Kong and according to the statutory purposes of the Fund. The primary purpose of the Fund, according to the Exchange Fund Ordinance, is to affect the exchange value of the currency of Hong Kong. Its secondary purpose is to maintain the stability and integrity of the monetary and financial systems of Hong Kong, with a view to maintaining Hong Kong as an international financial centre. The Exchange Fund s investment strategy is therefore governed by the following key objectives, which are endorsed by EFAC: (a) to preserve capital; (b) to ensure that the entire Monetary Base will at all times be fully backed by highly liquid US dollar-denominated securities; (c) to ensure that sufficient liquidity will be available for the purposes of maintaining monetary and financial stability; and (d) subject to (a) (c), to achieve an investment return that will preserve the long-term purchasing power of the Fund. Safety Liquidity Return The Three Principles for the Management of the Exchange Fund 31

2 Reserves management in Hong Kong Investment management of the Exchange Fund The Exchange Fund is divided into a number of portfolios at the operational level: the Backing Portfolio, which provides backing for the Monetary Base; the Investment Portfolio, which preserves the long-term purchasing power of the Fund; and the Strategic Portfolio, which contains the Hong Kong Government s shareholding for the account of the Exchange Fund for strategic purposes. Direct investment The Backing Portfolio, and part of the Investment Portfolio, which together amount to around two thirds of the Exchange Fund, are managed directly by HKMA staff. Assets held in the Backing Portfolio are US-dollar assets with high liquidity and credit qualities (such as US Treasuries). They provide full backing to the Monetary Base at all times, in addition to fulfilling the commitments at the strong-side Convertibility Undertaking of HK$7.75 to US$1 or the weak-side Convertibility Undertaking of HK$7.85 to US$1. The internally managed part of the Investment Portfolio is a multi-currency portfolio invested in the major fixed-income markets. Derivative financial instruments are also used to manage exposure to market risk and to implement the investment strategies of the Fund. To achieve the investment objectives of the Fund, internal portfolio managers continuously monitor the global financial markets for investment opportunities, and position their portfolios to capture potential gains or hedge possible losses. External managers In addition to managing assets internally, the HKMA also employs external fund managers. These managers operate in various international financial centres and handle approximately one third of the Exchange Fund s assets, including all of its equity portfolios and other specialised assets. 32

3 Why does the Exchange Fund use external managers and how are they selected? Hiring external managers for some of the Exchange Fund s assets allows the HKMA to tap the best investment expertise available in the market, particularly in specialised asset classes and markets, and to diversify investment styles in managing the Fund. The arrangement also expands the market awareness of in-house portfolio managers and allows them to keep track of the latest market developments. The appointment of external managers plays a strategic role in helping to diversify the Exchange Fund into more sophisticated asset markets and improve its return in the long run. The HKMA also employs custodians to provide custodian services for the externally managed portfolios the custodians hold physical custody of the assets of the portfolios and assist in valuating them. For a regulatory organisation like the HKMA, investing in private sector entities (such as banks in Hong Kong) could lead to conflicts of interest. Allocating all of its equity portfolios to external managers (and also creating firewalls between its banking and other departments, including the Reserves Management Department) helps the HKMA avoid potential conflicts of interest. The HKMA uses a variety of qualitative and quantitative factors to select its external fund managers. After an investment need is identified, fund managers with appropriate qualifications are invited to submit proposals for the consideration of a Selection Panel comprising senior executives of the HKMA. On-site due-diligence examinations are conducted for candidates shortlisted. Candidates who score well are appointed when both parties agree to the investment guidelines, the fee structure and the terms and conditions of appointment. 33

4 Reserves management in Hong Kong Investment management of the Exchange Fund Risk management and compliance The increasing volatility in the financial markets highlights the importance of risk management in the investment process. Stringent controls and investment guidelines have been established for both internally and externally managed portfolios. For example, in order to control the liquidity risk of the Fund (the risk that the liquidity of the Fund might be reduced unexpectedly because of movements in a particular market or asset class), restrictions are imposed to prevent excessive concentration in individual debt securities or debt issuers. Risk-control tools, such as Value-at-Risk (VaR) analysis and stress tests, are also used to assess the market risks incurred by the Fund under different market conditions. The HKMA also carefully analyses the investments performance of both internal and external managers. Such analyses measure the performance of individual portfolios against their investment benchmarks, and seek to identify the causes of differences in performance. Over time, these analyses indicate whether a portfolio manager has consistently demonstrated sound investment skills and where the manager s expertise lies. Based on this information, assets can be allocated in a way that fully utilises the investment skills of our portfolio managers. 34

5 What is the mark-to-market concept? How is it related to investment return? Mark-to-market means valuing a security or portfolio at current market prices. Following the requirements of international accounting standards, marking to market is now commonly used for asset valuation and is applied by the HKMA to the assets of the Exchange Fund. The total return of a portfolio (such as the Exchange Fund) includes the return generated by changes in market prices of all the assets in the portfolio, as well as other sources of return such as interest income and dividends. This ensures a more accurate picture of the value of the assets in the portfolio and is particularly important for the Exchange Fund, which, because of its primary statutory purpose, may need to realise assets at short notice to back the exchange value of the Hong Kong dollar. 35