However, the clout of private funds in the stock market has become so powerful that the country's legislators are considering letting them surface.

"The business of private funds should be brought to light and in line with the law. And a pressing job is to create the law to guide them on to the right track," said Wang Lianzhou, director of the drafting panel for the Law on Investment Funds of the National People's Congress.

The funds law, currently under discussion, is expected to acknowledge the legal status of private funds and stipulate rules to regulate their business for the first time.

The business of private funds is similar to trust and proxy asset management. They accept capital from clients, invest, and then pay clients promised returns.

One unique aspect is that private funds often have a high threshold for the amount of clients' capital, which rules out the vast army of small investors. Such a limited scope of customers exempts them from obligations to disclose information to the public.

Almost a forgotten corner of the law, private funds have grown with an astonishing speed in past years, resulting in the industry's amazing size today.

In Beijing, Shanghai and Shenzhen, more than 3,600 companies are engaged in the private funds business, according to a report by the People's Bank of China.

The report estimated these companies control about 700 billion yuan (US$84.6 billion) of capital.

Most of the money is ploughed into the stock market, where the value of all circulating shares is about 1,600 billion yuan (US$193.3 billion).

Such a huge amount of "hot money" is potentially dangerous to the country's fledgling stock market, experts said.

"As there are not clear rules to govern them so far, private funds tend to manipulate share prices to secure the hefty profits they promised customers. By manoeuvring the astronomical amounts of money they hold they could make the atmosphere in the market more speculative," said Lei Ting, a research manager with the Shenzhen-based China Communication Securities Co Ltd (CCSC).

"It is very likely they would dump share A to get enough chips to rig share B, stirring drastic fluctuations in the market. Small investors are then left victimized."

Moreover, the legal vacuum on private funds has brought great risks to principals.

"Many people give money to private funds because of personal relations and mutual trust with fund managers," said Lei. "But if the funds fail to give them promised profits or even swindle their money, how could they sort this out?"

"Irregularities in the industry will produce ill social impacts. This is not an exaggeration given that so many people and so much money are involved," he said.

But a more worrying problem is that banks have been drawn into the mire.

Some private funds managed to snowball their power by mortgage their shares to banks for money.

It is estimated that more than 600 billion yuan (US$72.5 billion) of bank money has gone into the stock market via illegal channels. A considerable part of this money is in the hands of private funds.

"Banks will suffer a lot once things in the stock market go bad," said Lei.

The stock market has been hit by a series of bad news in the past fortnight, including the People's Bank of China's order to ferret out bank money in the market.

"Many banks now have to clean up the mess of private funds," Lei added.

Despite the jumble of problems with private funds, however, experts agree that it is better to legalize the industry than to kill it or maintain the status quo.

"The emergence of private funds is a natural result of the progress of the capital market," said Zheng Jianming, a financial professor with the University of International Business and Economics.

"Many rich people face the dilemma that they want their assets to be safe and flourish but do not know how.

"Such a job is very demanding in a sophisticated capital market and can only be done by professional asset management experts - not an individual but groups of them."

He said private funds are one of those agencies that can do the job nicely.

"Legalization of private funds is definitely a wise choice because the industry's development has proven an irreversible trend," he said.

CCSC's Lei agreed with him, saying legislation will not only help regulate the stock market but also give new impetus to the economy.

"I think the flourishing of private funds is lopsided and it is a manifestation of the limited investment opportunities in our economy to an extent," he said.

Continuous economic expansion in past years has stimulated competition and made the profitability of traditional industries marginal.

In fact, scant private investment in some industries has become a big headache of the government in recent years, which has had to take the lead in economic development by issuing treasury bonds massively.

Naturally, many tycoons opted to put their idle money into the stock market via private funds, where the profitability is much higher than the average of other sectors, the manager said.

"Clear rules will deter private funds from speculation and stimulate them to improve their performance in line with the law, resulting in a healthier market," said Lei.

Moreover, the profitability of these funds will be moderated, forcing many principals to withdraw and turn to other investment channels.

"Industrial investment is expected to boom and fuel economic development," he added.

Many experts believe devising private fund rules will not be an easy job because it involves many vested interests as well as thorny technical problems.

But the resolution of legislators is clear.

"We have a clear aim to regulate private funds. Clear rules can protect investors and reduce risks in the market. And a little is better than none," said chief fund law drafter Wang Lianzhou.

（China Daily 08/13/2001)