Access China

 

Index providers MSCI and FTSE have recently made announcements on the inclusion of China A shares in their respective global indices.

 

Consultation on a further weight increase of China A shares in MSCI Indices

The MSCI consultation outlines the following proposals:

  1. Increase the inclusion factor from the current 5% to 20% for large-cap securities in two phases in May and August 2019
  2. Add the Shenzhen ChiNext board to the list of eligible stock exchange segments in May 2019
  3. Add China A mid-cap securities with a 20% inclusion factor by May 2020

MSCI has cited the robustness of the Stock Connect scheme as a channel to access China A shares, and view the Daily Quota Limit and CNH liquidity as sufficient to address a higher inclusion factor than the current 5%. The quadrupling of the Stock Connect daily limit, a material reduction of trading suspensions and other improvements in market accessibility have prompted this consultation for an increase sooner than many had expected.

Source: MSCI, September 2018

 

FTSE will be assigning a Secondary Emerging Market status to China A shares from June 2019

FTSE announced that China A Shares available via the Northbound Stock Connect route will be assigned Secondary Emerging Market status, commencing with the FTSE Global Equity Index Series (GEIS) semi-annual review in June 2019. The inclusion will feature constituents from the FTSE China A Stock Connect Index, and will include securities across large-, mid- and small-cap segments. The implementation will take place over three tranches in June and September of 2019, as well as March of 2020.

FTSE has been reviewing the China A market access since March 2018, and cites the Stock Connect enhancements including the following as considerations:

  1. The four-fold increase in the Daily Quota Limit, which indicates a lesser likelihood of intra-day closures of the Stock Connect facility
  2. The Special Segregated Account (SPSA) arrangement allows for the facilitation of Delivery versus Payment (DvP) via the Stock Connect Northbound program
  3. No requirement for foreign investors to apply for a licence to trade China A Shares via the Stock Connect program, unlike the RQFII and QFII schemes

 

Schroders’ view

Implications from these index inclusion announcements on portfolio construction across our China equity range is marginal. This is because our bottom-up, active fundamental investment style sees us focusing on uncovering attractive stock ideas, but use indices in reference as we seek to deliver strong risk-adjusted returns for our clients.

However, the assessment that the accessibility of the China A share market points to significant progress is meaningful, although further progress and improvements are sought. With increasing foreign ownership and participation, this will continue to drive incremental changes, including further institutionalisation of the China A share market, and potentially encouraging better governance and standards. Our internal research had also previously started to observe a shift towards fundamental factors becoming more important in the domestic A share market since the launch of the Stock Connect scheme. This can be expected to continue as the market matures and continues to open up to outside capital. Northbound Connect, which is the money flowing from offshore to onshore, is now valued at USD 46 billion.

As active, fundamentally-focused stock-pickers, we view these as positive and constructive developments. The Chinese equity market holds for us a dynamic and compelling universe from which we can uncover many attractive investment opportunities and undiscovered gems, and one which is without doubt continuing to evolve. Recent market performance and sentiment has been very weak, offering potentially attractive entry points from a valuation perspective as well. Whilst there are multiple headwinds including domestic tightening and a slowing economy as well as challenges on the external trade front, the longer term structural positives for China remain compelling for investors looking to build up their China exposures for the long term.

Source: Factset, August 2018

 

 

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