[Fund Market Crisis] From Private Equity to Public Offering... Why Do Fund Accidents Keep Happening?

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[Asia Economy Reporter Koh Hyung-kwang] Following the Lime and Optimus incidents that shook the private equity fund market, recent large-scale redemption suspensions have also occurred in public funds, raising growing concerns. Experts agree that the continuous occurrence of fund redemption suspension incidents is the result of structural problems such as inadequate management and supervision by financial authorities, moral hazard among asset management companies, sales companies' greed for commissions, and 'blind investment' in the low-interest-rate era.

First, there are criticisms that indiscriminate deregulation by financial authorities has exacerbated side effects. In 2015, the financial authorities lowered the individual private equity fund investment limit from 500 million KRW to 100 million KRW. In 2018, the cap on the number of private equity fund investors increased from 49 to 100, and fund splitting was allowed. The minimum capital requirement for asset management companies was also drastically reduced from 6 billion KRW to 1 billion KRW.

As the entry barrier lowered, asset management companies sprang up like mushrooms. The market size also rapidly expanded from around 170 trillion KRW in 2015 to 400 trillion KRW by the end of last year. This led to a proliferation of small private equity funds lacking proper internal control systems or capital strength. According to the Financial Supervisory Service, among management participation-type private equity funds established in 2014, the proportion of small funds with assets under 100 billion KRW was 55%, but this rose to about 80% this year. There are also about 100 ultra-mini private equity funds with less than 10 billion KRW.

The Financial Services Commission excessively loosened regulations but did not establish even the minimum mechanisms to monitor them. The Lime and Optimus redemption suspension incidents were mainly caused by so-called 'fund mismatches,' where investments were made in illiquid assets that take a long time to recover, yet sold as open-ended funds allowing mid-term redemptions. The financial authorities were completely unaware of these circumstances.

Additionally, unlike the poor sales of other financial products in the low-interest-rate era, the sales companies' greed for commissions to sell more soaring private equity funds, combined with unconditional trust in private equity funds, concealed the poor management of the funds themselves. An executive of an asset management company remarked, "Due to deregulation, private equity funds became de facto public funds without regulation," adding, "It was like a car with an accelerator but broken brakes."

Following private equity funds, recently, large-scale redemption suspensions have also occurred in public funds. Domestic asset management companies investing in the UK-based H2O Asset Management's public funds notified sales companies of redemption suspensions earlier this month. The fund in question is the 'Kiwoom Global Alternative Fund,' sold publicly by Kiwoom Asset Management, with redemption suspensions amounting to 360 billion KRW. The suspension occurred after French financial authorities, to protect investors, ordered H2O to separate illiquid private bonds from other assets. A sales company official explained, "This case is not due to fund asset insolvency but a temporary drop in asset value caused by the COVID-19 pandemic," distinguishing it from the Lime and Optimus private equity fund incidents.

However, fundamentally, it is not much different from private equity funds in terms of failure to properly manage risks. H2O reportedly employed 'high-risk investment strategies' by leveraging some fund assets up to five times (through borrowing). Chasing high returns made them correspondingly more vulnerable to risks. An investment industry expert explained, "The overseas bond products suspended this time pursue high returns and thus incur significant losses; the fundamental problem was the risk in underlying assets and management processes," adding, "The failure of sales companies and asset managers to properly monitor during the sales process also contributed to this incident." There are also calls for accountability regarding whether financial authorities thoroughly reviewed the fund's management strategies and investment targets. Another investment industry official pointed out, "Investors have no way to know the soundness of the fund's assets," adding, "This was an issue that Kiwoom Asset Management and domestic financial authorities should have scrutinized."

The market views that a second Lime or Optimus incident could erupt at any time. This is why voices calling for measures to normalize the fund market from the ground up are growing louder. There are calls to strengthen punishment levels. Hwang Se-woon, a researcher at the Capital Market Research Institute, said, "Thorough management and supervision by financial authorities are important, but punishment for asset management companies or sales companies involved in problems must be strengthened," adding, "If accidents occur in the private equity fund market in the future, a proper sense of caution that 'you can go bankrupt' must be instilled."

This content was produced with the assistance of AI translation services.