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New Order in Capital Openness
In 2018, the A-share market will enter its "international era," with the full circulation of H-shares and inclusion in the MSCI both set to be realized within the year. Progress is also expected on the "Shanghai-London Stock Connect." As two-way openness in the capital markets deepens, the maturation of external funds and institutions is becoming one of the stabilizers for the A-share market, as seen in the blue-chip stock rally of 2017. With the increasing entry of international funds and institutions, how will the "value investment" ecosystem of the A-share market evolve?
In terms of two-way openness in the capital markets, several major policies are expected in 2018, including the "official inclusion of A-shares in the MSCI index" and further maturity of the "Shanghai-London Stock Connect framework."
The "international era" for A-shares is arriving.
On the last working day of 2017, an important step was taken in the opening up of China's capital markets: the China Securities Regulatory Commission (CSRC) announced that it would launch a pilot program for the "full circulation" of H-share listed companies.
After the kickoff of the full circulation of H-shares, 21st Century Business Herald reporters learned that in terms of two-way openness in the capital markets, several major policies are expected in 2018, including the "official inclusion of A-shares in the MSCI index" and further maturity of the "Shanghai-London Stock Connect framework."
With the maturation of the mainland-Hong Kong connectivity mechanisms, the inclusion of A-shares in internationally evaluated index systems, and the opening of two-way investment channels between domestic and overseas markets, China's capital markets will gradually step into a new era of globalization in 2018.
Timeline for Full Circulation of H-shares
"Judging from the completion of preparatory work and market expectations, the full circulation of H-shares has reached a mature point where it can be implemented, which will also greatly improve the financing environment for domestic enterprises listing in Hong Kong," a person close to the regulatory authorities told reporters in early November 2017.
The market has placed great expectations on the full circulation of H-shares, with some even suggesting that for the Hong Kong stock market, the significance of the H-share full circulation could be compared to the share-trading reform of A-shares back then. Therefore, the pace of full circulation of H-shares in 2018 may also be referenced against the share-trading reform.
"The A-share share-trading reform took only four months from the pilot phase to full implementation, which was remarkably swift. In comparison, the Hong Kong stock market is already in a mature stage of development, and the impact of policies on the market and listed companies is mainly positive. Although the number of pilot enterprises will not exceed three, the expansion of the scope of eligible enterprises through full circulation of H-shares is expected to proceed at an even faster pace," said Xu Bo, an analyst at Zhongtai International, on December 29, 2017.
The CSRC also stated that it will further study the promotion of "full circulation" based on the evaluation of the pilot program.
Compared to the anticipated rollout, who will be the first to implement the full circulation of H-shares in 2018 is an even bigger focus. Chang Depeng, a spokesperson for the CSRC, said that candidate enterprises for the pilot must meet four criteria, including having a relatively simple equity structure of existing shares and a market value of existing shares not less than HK$1 billion.
"The H-share enterprises participating in the pilot are likely to be large state-owned enterprises, with those from the communications, industrials, and materials sectors being the most probable," speculated Xu Bo.
At the same time, the full circulation of H-shares will also significantly improve the weighting of central and state-owned enterprises in the Hang Seng Index. Most recently listed mainland central enterprises have adopted the H-share structure, with their H-share free-float ratios mostly below 30%. This directly leads to their underweight status in key benchmark indices such as the Hang Seng Series Indexes and the MSCI Series Indexes, with their market capitalization, weight, and company size being severely disproportionate.
"For example, large enterprises listed in Hong Kong such as Postal Savings Bank of China (1658.HK), China Telecom (0728.HK), and People’s Insurance Group (1339.HK) all have unlisted market capitalizations exceeding HK$100 billion. The discrepancy between free-float market capitalization and weighting results in valuation discounts for these stocks compared to their peers (most of which are large-cap leaders), and the elimination of this discount will be a significant benefit brought by the full circulation policy," analyzed Qin Bo, an overseas market research analyst at Everbright Securities, on the 2nd.
Accelerating Internationalization
As the connectivity mechanisms between the mainland capital markets and the Hong Kong market gradually mature, funds flowing northward via Hong Kong continue to pour into A-shares. In 2018, the A-share market will welcome even more significant international events, the most definitive of which is the inclusion of A-shares in the MSCI index.
According to the timeline released by MSCI, on March 1, 2018, the "MSCI China A Share Index" will be renamed the "MSCI China A Onshore Index." Additionally, MSCI will release a new "China A Share Index," tracking stocks limited to those within the scope of the Shanghai-Hong Kong Stock Connect and Shenzhen-Hong Kong Stock Connect.
On June 1, 2018, A-shares will be included in the "MSCI Emerging Markets Index" at a ratio of 2.5%, and on September 3, 2018, the inclusion ratio will be raised to 5%.
The inclusion of A-shares in the MSCI index carries multiple significances. In addition to the gradual increase in overseas incremental funds, the integration process may also guide a shift in market investment styles.
"During the integration of capital markets, the style is gradually aligning with international capital markets, and the atmosphere for value investment will become stronger," said Shao Yu, chief economist at Orient Securities, on January 2.
MSCI attracts overseas incremental funds by including indices, primarily through the Shenzhen-Hong Kong Stock Connect or Shanghai-Hong Kong Stock Connect. In 2018, this channel is expected to expand, with the Shanghai-London Stock Connect potentially making significant progress.
Since mid-November 2017, the CSRC and other departments have frequently stated that the Shanghai-London Stock Connect is steadily advancing.
On November 16, 2017, CSRC Vice Chairman Li Chao stated that the demonstration work for the Shanghai-London Stock Connect is progressing steadily; subsequently, on the 22nd, CSRC Assistant Chairman Zhang Shenfeng said that the demonstration of the Shanghai-London Stock Connect is being advanced; on the same day, Zhang Bin, director of the Shanghai Stock Exchange Hong Kong Office, said that the Shanghai-Hong Kong Stock Connect will be optimized in the future, and the Shanghai-London Stock Connect will be continuously promoted; on December 2, 2017, Zhou Ming, chairman of China Securities Depository and Clearing Corporation, said that China Securities Depository and Clearing Corporation will further cooperate with the Shanghai-London Stock Connect project in accordance with the unified deployment of the CSRC.
A clearer signal came from the 9th UK-China Economic and Financial Dialogue held on December 15-16, 2017. In a joint statement, the UK and China agreed to accelerate the final preparation and review timeline for the Shanghai-London Stock Connect.
In fact, some preliminary cooperation between domestic exchanges and the London Stock Exchange has already begun. 21st Century Business Herald reporters learned that the Shenzhen Stock Exchange and the London Stock Exchange Group have already started initial alignment in the field of sci-tech innovation investment and financing services, aiming to provide services for cross-border capital matchmaking.