Answer ... The sector update published by VIS Credit Rating Company Limited (a leading full service rating agency of Pakistan) in February 2020 in relation to AMCs set out the following key findings, which also have implications for other AIFs:

• The total assets under management (AUM) of the industry increased at a compound annual growth rate (CAGR) of 9.4% between 2014 and 2019. During this period, cumulative growth of AUMs in the conventional segment was 13.8%, while Sharia-compliant segment AUMs increased at a rate of 5.8%.
• After peaking during the first quarter of 2018, total AUMs have since declined, owing to the sluggish performance of the equity market, which in turn has been attributed to macroeconomics and political uncertainty in Pakistan.
• By the end of December 2019, total AUMs had increased to Pakistani Rupees Six Hundred Eighty Billion, while registering a cumulative growth rate of 16.8%.
• The mutual fund industry has witnessed significant consolidation over the years: while there were 76 mutual funds managed by 29 AMCs in 2007, today there are 276 mutual funds managed by 19 AMCs.
• Many AMCs have started offering diversified Sharia products, which has resulted in the number of Sharia-compliant funds growing substantially from 51 in 2014 to 114 in 2019.
• Institutional investors are the primary source of investment in mutual funds in Pakistan; however, the share of retail investors in overall AUMs increased by 12% between 2014 and 2019.
• In order to attract retail investors to the mutual fund arena, product innovation and use of technology have been the primary areas of focus in recent years, including the launch of insurance-based funds and funds (including daily dividend-based funds) launched in order to take advantage of tax arbitrage, introduction of theme-based funds (energy and financial sector funds) and funds such as real estate investment trust schemes and private funds. The shift from a sales-based model to greater reliance on digitisation has had a positive impact on the industry.
• Pakistan’s informal economy has clipped the mutual funds industry’s wings in terms of investment solicitation and constrained its ability to channel retail investment to mutual funds.
• Industry AUMs have remained below 5% of the total banking sector deposits in Pakistan, 2% of GDP or 6% to 7% of market capitalisation, which signifies a vast untapped market and considerable potential for growth in AUMs.
• In order to develop a larger customer base, AMCs are focusing on:
• • enhanced alignment with parent banks in order to leverage branch network and customer base; and
  • utilisation of digital marketing platforms for targeted marketing.
• Investment in national saving schemes (NSS) currently stands at Pakistani Rupees Four Point Zero Three Trillion, with an investor base of more than 7 million. CAGR over the past five fiscal years was reported at 8.4%. NSS investment represents around seven times the mutual funds industry AUMs. Higher returns offered on NSS along with lenient know-your-customer (KYC)/anti-money laundering (AML) regulations by the government have hindered the growth of the mutual funds industry.
• The Ministry of Finance has decided to impose the KYC/AML regime on NSS investors, which is expected to facilitate the growth of the mutual fund industry.

While the foregoing findings of the VIS Credit Rating Company Limited reveal a host of challenges faced by the mutual funds industry, which are equally applicable to other AIFs, they also highlight an immense opportunity to capitalise on the vast untapped investment source of retail investors through better planning and strategising, deployment of cutting-edge marketing tools and government/regulatory support.

Answer ... As discussed in question 9.1, the Ministry of Finance’s decision to subject NSS investors to the KYC/AML framework is likely to foster the growth of the mutual fund industry and to divert investments to other AIFs.

Furthermore, the SECP proposed a draft bill in March 2020 called the Non-Banking Finance Companies (NBFC) and Collective Investment Vehicles Act, 2020, ostensibly aimed at the beneficial regulation of NBFCs and collective investment vehicles, the development of a robust non-banking financial sector and the protection of investors. The NBFC Bill proposes to repeal Part VIIIA and Section 457 of the Companies Act, and serve as the parent legislative instrument for governance of AIFs and AIF managing entities. While the NBFC Bill does not introduce any critical changes to the existing AIF regulatory framework that are likely to have a notable impact on the AIF landscape, agriculture finance services, collateral management services and non-banking micro-financing services have been incorporated in the list of businesses that an NBFC may undertake, and there is now express contemplation of licensing of a branch of a foreign NBFC which is licensed by its respective regulatory authority to engage in a business regulated under the NBFC Bill.

The SECP continues to work on creating a conducive environment for AIFs. To this end, amendments to the Companies Act are proposed to facilitate start-ups by eliminating stringent regulatory requirements. The SECP is also working on:

• amendments to the Private Fund Regulations;
• the introduction of equity crowdfunding regulations;
• further development of the recently introduced start-up portal;
• the establishment of a Company Registration Office facilitation desk; and
• the launch of the first regulatory sandbox in Pakistan.

Notably, through recent amendments in the Companies Act by way an ordinance (i.e. a temporary law that requires ratification of the legislature to attain permanence), start-up companies have now been exclusively defined as companies existing for less than 10 years, having an annual turnover of less than Pakistani Rupees Five Hundred Million and working towards innovation, development or improvement of products or processes or services or being a scalable business model with a high potential of employment generation or wealth creation or for such other purposes as may be specified.

Through such amendments, the SECP has been empowered to implement measures for providing greater ease of doing business, improving regulatory quality and efficiency and facilitating innovation and the use of technology in conducting business by the corporate sector by, quote, unquote:

• formalizing existing practices through regulations and implementing other measures for attaining international standards of regulatory quality and efficiency for greater ease of doing business;
• specifying modes and procedures for enabling greater ease of entry into and exit from the market to start-up companies;
• constituting special task groups from the corporate sector for encouraging the use of financial technology in the conduct of business;
• creating environments for testing and examining the impact of innovation, new processes or technologies outside the existing regulatory framework including but not limited to crowdfunding, digital assets, open application programming interface (APIs), smart contracts, cloud based solutions and allowing the establishment and use of regulatory sandboxes;
• encouraging the use of technology for providing and meeting regulatory reporting requirements, risk assessment, customer due diligence, the issuance of suspicious transaction reports, keeping records and such other requirements as may be specified to meet anti-money laundering and counter-terrorism financing standards;
• improving regulatory compliance and specifying proportionate data-driven standards for the corporate sector to take measures for cyber-security, data sovereignty and algorithm supervision;
• specifying exemptions and incentives under the prevailing laws with the object of fostering innovation, promoting start-ups and entrepreneurship ecosystem in line with international best practices;
• improving regulatory monitoring, reporting and compliance requirements; and
• prescribing such other frameworks as may be notified by the SECP for stimulating innovation and financial inclusion in the conduct of business by the corporate sector through the use of financial technology, regulatory technology and supervisory technology.

Answer ... As discussed above, industry stakeholders are engaged in an ongoing dialogue to make the AIFs investment avenue more attractive for retail investors, who have conventionally invested in real estate and/or NSS. AIF managing entities are also constantly pushing for:

• greater regulation of NSS;
• the amendment of existing laws;
• the introduction of new regulatory regimes;
• the inculcation of tech-specific aspects of investment and marketing in regulatory regimes; and
• the introduction of tax relief measures in the AIF industry to incentivise re-routing of investment streams to financial products in the AIF business.

Although the Pakistani AIF industry is diminutive in the domestic and global context, the presence of an enormous untapped retail investor market represents a significant opportunity for domestic and foreign investors. It is likely that investors and AIF managing entities will strategise to channel retail investment in the AIF industry.

While the ongoing COVID-19 pandemic is a major hurdle to the development of the AIF industry in the immediate future, the results of the collaborative efforts of industry stakeholders may start becoming apparent once the pandemic subsides.