Chinese regulators are considering the introduction of stricter rules on how banks distribute financial products to the public, potentially severing a crucial distribution channel for some of the country’s largest hedge funds, according to a report by Bloomberg.

The report cites unnamed sources familiar with the situation in revealing that The National Financial Regulatory Administration is currently gathering feedback from commercial banks on proposed revisions that would prohibit the “disguised” sale of private fund products, including hedge funds.

Traditionally, banks have played a significant role in distributing these hedge funds, often raising money from investors through trust products, with the funds subsequently invested in hedge funds.

If implemented, the revised distribution regulations would compound the challenges faced by the RMB5.2tn ($717bn) hedge fund industry, which is already grappling with a higher asset threshold and other restrictions due to new rules set to take effect in August. The new regulations are part of an effort by regulators to eliminate weaker and non-compliant investment firms following a series of irregularities that have unsettled investors in recent years.

According to regulations established in 2016, banks are permitted to distribute products only for licensed financial institutions. While private funds, including hedge funds, are registered with the Asset Management Association of China, they are not considered licensed financial entities.

Despite this, banks have continued to distribute hedge fund products by typically selling products for trust firms, which then employ hedge funds as investment advisors and allocate capital accordingly.

According to AMAC data, by the end of 2021 Chinese hedge funds managed RMB704bn in management advisory products, with 75% of these assets structured as trust products. This figure subsequently dropped to RMB574bn by the end of 2022, accounting for about 10% of the domestic hedge fund industry’s total assets.