Chinese stock market programme could transform emerging markets

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A trading link between the Shenzhen and Hong Kong stock exchanges that launched today could transform emerging market equities by opening up the Chinese market to foreign investors, a portfolio manager says.

The Shenzhen-Hong Kong Stock Connect program has kicked off on Monday after months of delay due to last year’s Chinese market volatility.

Together with the existing Shanghai-Hong Kong Stock Connect, which was launched in 2014, the Chinese stock market will now become the second world’s largest after the New York Stock Exchange with a daily cash trading volume of $85bn, according to Goldman Sachs.

It will allow foreigners to invest in mainland Chinese equity denominated in renminbi, while Chinese investors will be able to invest in Hong Kong.

Wojciech Stanislawski, portfolio manager at Comgest, says too little weight has been given to the development. “For investors in emerging markets equity, the [Stock Connect] has the power to transform the asset class.”

Stanislawski points out that the two connect schemes give access to more than 50 per cent of China’s market capitalisation, with around 1447 eligible stocks.

In the year to the end of October, Shenzen and Shanghai turnover represented around 22 per cent of global stock exchange turnover, which at $16trn is by far the highest in the world, says Stanislawski.

Stanislawski says: “Yet only 1 per cent of the Chinese market cap is in the hands of foreigners – as opposed to 23 per cent in Russia, for example, which in our view offers a less attractive equity market.

“A full inclusion of A-shares into the MSCI Emerging Markets index would leave China with a hefty 40 per cent weighting in the index.”

AJ Bell investment director Russ Mould says the Shenzhen market differs from Shanghai due to its mid-to-small-cap focus and a heavier weighting toward technology, media and consumer discretionary stocks.

It is best suited to investors who are very risk tolerant, Mould says.

“Shenzhen does tend to be more volatile than Shanghai or Hong Kong although it has outperformed them both over the last couple of years and has rebounded more strongly from spring 2015’s heavy sell-off.”

Mould says direct investing into Chinese stocks would remain challenging for those who are less familiar with the market and those in the UK rather than on the ground in China or Hong Kong. “That is where a good, well-resourced fund manager could be in a position to add value.”

“China also tends to be quite a top-down, macro-driven market, even allowing for the differences in stock constituents between then Shanghai, Shenzhen and Hong Kong driven indices.