TNAG-2475-FCO40-3605-Hong-Kong-exchange-fund-report-and-accounts-for-1991-1992 — Page 105

090 REFE

"HD/AKD FOR DIST ADVICE

LNMLA 3190 HMLNAN 4444 CONFIDENTIAL

PP FCOLN

FM HOKON TO FCOLN

09030 MAR

GRS 719

CONFIDENTIAL

FM HONG KONG

TO PRIORITY FCO

TELNO 718

OF 09030OZ MARCH 92

PERSONAL FOR RICKETTS, HKD.

NO SUGGESTED DIST

MORG

this lots

वीद्र

тор Сарио

I think I have

asted

ahealy

open

a

EXCHANGE FUND ORDINANCE

-

APPROVED INVESTMENTS.

SUMMARY

to

you Fixe&vorge

File "Fixe vorge

Fund: Nevestments ad Assets"

1. WE SEEK APPROVAL UNDER SECTION 3(2) OF THE EXCHANGE FUND ORDINANCE FROM THE SECRETARY OF STATE FOR THE INVESTMENT OF UP TO 10 PCT OF THE FOREIGN CURRENCY ASSETS OF THE EXCHANGE FUND IN THE UNITED STATES EQUITY MARKET THROUGH THE PURCHASE OF THE COMPONENT SHARES MAKING UP THE STANDARD AND POOR 500 COMPOSITE STOCK PRICE INDEX IN SUBSTANTIALLY THE SAME CAPITALIZATION WEIGHTINGS AS IN THE INDEX.

BACKGROUND

2. THE SECRETARY OF STATE'S APPROVAL IS REQUIRED UNDER SECTION 3(2) OF THE EXCHANGE FUND ORDINANCE FOR ALL INVESTMENTS MADE BY THE EXCHANGE FUND. HIS GENERAL AUTHORITY WAS OBTAINED IN 1972 (YOUR TELNO. 530 OF 29 JUNE 1972) FOR INVESTMENT IN FOREIGN GOVERNMENT BONDS, FOREIGN GOVERNMENT GUARANTEED BONDS, AND BONDS ISSUED BY FOREIGN ORGANISATIONS SIMILAR TO UK LOCAL AUTHORITIES. SPECIFIC AUTHORITY HAS ALSO BEEN GIVEN FOR THE ACQUISITION OF SHARES OF CERTAIN HONG KONG COMPANIES (SEE YOUR TELNOS. 572 OF 5 JUNE 1981 AND 772 OF 12 AUGUST 1983).

3. AT A RECENT MEETING, THE EXCHANGE FUND ADVISORY COMMITTEE RECOMMENDED THAT A PROPORTION OF THE FUND SHOULD BE INVESTED IN EQUITIES. THE REASONING BEHIND THIS RECOMMENDATION WAS THAT OVER A PERIOD OF YEARS THE RETURN ON EQUITIES, AS MEASURED BY VARIOUS STOCK MARKET INDICES, IS NORMALLY HIGHER THAN THAT FOR FIXED INTEREST INVESTMENTS, SO THAT A MODEST DIVERSIFICATION OUT OF BONDS INTO EQUITIES SHOULD IMPROVE THE OVERALL RATE OF RETURN WITH LITTLE OR NO INCREASE IN RISK.

4. IT IS INTENDED THAT THE DIVERSIFICATION BE UNDERTAKEN BY THE ADOPTION OF A PASSIVE APPROACH THROUGH INVESTING IN THE COMPONENT SHARES OF PARTICULAR INDICES, SUCH AS THE S AND P 500 IN THE UNITED STATES MARKET, THUS ENABLING THE FUND TO ACHIEVE RATES OF RETURN THAT MIRROR THE PERFORMANCE OF THOSE INDICES. THE COMMITTEE HAS ADVISED INITIALLY INVESTING SOLELY IN U.S. EQUITIES TO AVOID EXCHANGE RISK. MANAGERS WOULD BE APPOINTED IN THE UNITED STATES TO ACT ON BEHALF OF THE FUND.

5. IN OUR STUDY OF THE RELATIONSHIP BETWEEN RISK AND RETURN ASSOCIATED WITH THIS PROPOSED INVESTMENT STRATEGY, WE CONCLUDED THAT THERE WOULD BE NO SIGNIFICANT INCREASE IN RISK TO THE PORTFOLIO AS A WHOLE IF WE DIVERSIFIED UP TO 10 PCT OF THE FOREIGN CURRENCY ASSETS OF THE FUND INTO EQUITIES. THE EXCHANGE FUND ADVISORY COMMITTEE AGREED THAT THIS DEGREE OF DIVERSIFICATION WOULD BE PRUDENT.

м

2613

Page 105Page 106