Article contributed by SGX
While the majority of the $4trillion Chinese Equity market remains in the hands of state-owned enterprises and domestic investors, significant inroads, such as relaxing tight capital controls, have been made to open up its economy to foreign investments. More significantly, it could herald an era where the Chinese market becomes a dominant force in the years ahead.
Remarkable Transformation The last ten years (2003-2013) for China has been nothing short of spectacular. Having avoided the mistakes of making rapid transformations to an open economy at the expense of stability a la the former Soviet Union, China has been able to methodically and skillfully steer its super-tanker economy through a perilously strait which included the Global Financial Crisis in the latter half of the decade. With over 1.3billion people, China accounts for 20% of the world’s population and now stands on the brink of being the largest economy in the world. In a short period of 10 years, China’s nominal GDP quadrupled from RMB 14tn in 2003 to RMB 57tn in 2013. While China’s exponential growth have been slightly pared back from the double digit GDP growth, the Chinese economy continues to grow at a stable rate between 7-10% YoY till date. In fact, China overtook Japan as the 2nd largest economy in 2010 and is widely expected to overtake the US this year (2014) as the largest economy. Despite the country’s economic might, its integration into global capital markets is less advanced than expected. China’s currency, the Renminbi, is hardly used outside the country. China’s capital markets have historically been relatively inaccessible to foreigners and its capital account is not fully convertible. Also, the barriers to the free flow of capital have posed particular challenges for global investors seeking exposure to China’s fast growing economy. There are various share types that provide access to the Chinese market, with the most well-known ones being the A-shares, B-shares, H-shares and P chips. However, they usually differ in certain aspects such as investors’ geographic origin or domicile of the company. Table 1 provides more details of the various Chinese share types. Although there are various share types providing exposure to the Chinese market, the principal market (A-shares) have been the most difficult to access due to China’s tight capital controls. Chinese authorities have recognized this and have implemented the Qualified Foreign Institutional Investor (QFII) and Renminbi Qualified Foreign Institutional Investor (RQFII) systems to mitigate the problem. In the simplest terms, these are quotas which allow foreign investors access to the Chinese A-share market where the growth is centered upon. The upcoming Shanghai-HK Stock Connect is another step in China’s long term plan to open up its capital account to the world and internationalize the RMB. RMB300bn quota would add a fifth to the current US$216bn in quota through the QFII systems.
Table 1: Various Share Classes in Chinese Equities
|A-shares*||RMB||Onshore||Chinese companies incorporated in China and traded on Shanghai & Shenzhen exchanges. Can only be purchased by mainland investors, QFII & RQFII investors|
|B-shares||US/HKD||Onshore||Chinese companies incorporated on the mainland and traded in Shanghai (USD) or traded in Shenzhen (HKD); Open to foreign ownership|
|H-shares||HKD||Offshore||Chinese companies incorporated in China and listed in Hong Kong Open to foreign ownership|
|Red chips||HKD||Offshore||State-owned Chinese companies incorporated outside of the mainland (mainly in HK); Listed & traded in HK|
|P-shares||HKD||Offshore||Non-state owned Chinese companies incorporated outside the mainland (Cayman Islands, Bermuda); Listed & traded in HK|
|N-shares||USD||Offshore||Chinese companies incorporated outside the mainland; Listed and traded on NTSE/NASDAQ|
* Quota-based for QFII & RQFII investors only Qualified Foreign Institutional Investor (QFII) Launched in 2002, the QFII program allows licensed investors to make investments in the Chinese capital market. As of Sep 2014, the investment quota has increased from the initial USD$50billion in 2012 to USD$150billion, with 254 foreign institutions obtaining QFII licenses from the China Securities Regulatory Commission (CSRC). RMB Qualified Foreign Institutional Investor (RQFII) Launched in Dec 2011, the RQFII program allows qualified RQFII holders to channel RMB raised in Hong Kong into the Mainland Securities market. In a short span of a year, investment quota has increased 14-folds from the initial RMB 20billion to RMB 270 billion. Currently, there are plans by the CSRC to expand the RQFII scheme to London and Singapore after favorable response from Hong Kong and Taiwan. Characteristics of the China A-share market The Chinese Equity market has been a success story ever since the establishment of the Shanghai & Shenzhen exchanges in 1990. Today, the Chinese stock market is one of the largest with a total market capitalization of RMB24.5trillion with close to 2,500 A-share companies listed and a daily turnover of RMB200billion. In the subsequent paragraphs, we will look at the participants’ composition and how investors could potentially tap into this rapidly growing sector. Participants’ Composition It is perhaps not surprising that a large percentage of the involvement in Chinese stock market comes from state-owned enterprises and retail investors. QFIIs only account for 1% of the China A-share market which shows further potential for growth. Of greater importance, individual investors which account for 26% of the total market capitalization accounted for almost 78% of the daily trading volume. Unlike the Singapore market, the majority of the participants in the Chinese stock exchange engage in short term speculation and accounts for a large part of the volatility itself.
Figure 2: Participants composition in the Chinese A-share market
We can categorize the various methods to invest in the China A-share market into physical and synthetic. Physical exposure is gained through direct investment and ownership of common stocks. This method is clearly valuable for Chinese investors and the state-owned enterprises. On the other hand, the synthetic exposure is gained through investing in exchange-traded funds (ETFs) and derivatives such as futures and swaps.
How do we decide which instrument to use to gain exposure to the A-share market?Firstly, when tracking the performance of the largest 50 ‘A’ shares companies in China, the underlying FTSE China A50 Index, should be highly correlated with the domestic Chinese market. Secondly, we should take into account the liquidity of the instrument which allows for investors to close and open their positions with ease. Lastly, the trading hours should cater to the main target audience and minimal transaction costs which would protect the gains. ETFs As of today, there are over 50 country, sector, and strategy indices tracked by approximately 100 Chinese equity ETFs listed on various exchanges outside China, with a combined USD 28 billion in assets under management (AUM). This compares to a total of 61 equity ETFs domiciled in Mainland China, which are only available to domestic Chinese investors. These funds have a combined USD 23 billion in AUM, and mostly invest in the onshore Chinese market (A-Shares). Equity investors have had to choose from a limited number of securities issued within China and available for purchase by foreigners, or from a variety of securities issued offshore and in different locations by companies with exposure to China. Most ETFs access the Chinese market through shares of Chinese companies listed in Hong Kong, the U.S. or a special “B” share class traded in Shanghai or Shenzhen. These “investable” shares consist of H-shares, red chips, P-chips, B-shares and N-shares. Futures The FTSE China A50 comprises of the largest 50 A Share (shares in RMB only available for purchase by mainland citizens) companies by full market capitalization listed on the Shanghai and Shenzhen stocks exchanges. The index is calculated on a market-cap basis and recalibrated every quarter. It is an avenue for non-Chinese investors to gain direct exposure to large-cap Chinese stocks. Participation ranges across banks, hedge funds, pension funds, proprietary trading firms, asset management firms and individual investors with a record 21.9 million contracts were traded in 2013, up 119% YoY.
Growing Relevance of SGX FTSE China A50 Futures
Why SGX FTSE Chinese A50 futures? This is when the SGX FTSE Chinese A50 futures are able to shine.
Key selling points:
- World’s ONLY offshore futures tracking the A-share market, allowing efficient access into the Chinese growth engine which allows for:
- Exposure in China A shares (High correlation)
- Effective hedging of delta risk
- Arbitrage tool for traders between related products and onshore equities
- Active and deep calendar spread market (Big Liquidity – Easy to get in/out)
SGX China A50 Index Futures is the world’s only offshore futures tracking the A-share market, enabling efficient access into the Chinese growth engine. Tracking the performance of the largest 50 ‘A’ shares companies in China, the underlying FTSE China A50 Index, is highly correlated with the domestic Chinese market.
The SGX FTSE China A50 futures offers global investors a useful tool to gain China A-share exposure, including those trading the A-H strategy who are not Hong Kong investors and hence, not allowed to participate in the Hong Kong to Shanghai limit of RMB 300 billion.
Another key feature of the contract is the active and deep calendar spread market. Investors are able to easily and efficiently perform roll-over activities through (i) direct order placement in the electronic calendar spread market which trades at 1-tick spread during the roll period, or through the (ii) NLT facility which allows transactions to be privately negotiated at prices at up to 2 decimal places, executed off-exchange and thereafter registered with the Exchange for clearing.
Key statistics: –
Prompted by an unprecedented interest in Chinese equities following the Stock Connect launch, the SGX China A50 Futures saw a record jump in trading volume. Monthly and average daily volumes doubled from a year ago to set a new record of 4.8 million and 238,447 contracts in November respectively. This translates to approximately US$1.8 billion in average daily notional turnover. Open interest as of end November stood at close to US$3.3 billion notional.
Interest in the SGX China A50 futures contracts has also extended into the T+1 session as investors took advantage of the extended trading session to manage their China A-share exposure. With 16.5 hours of trading time spanning Asia, Europe and partial US timezones, the SGX China A50 Futures is well suited for traders who need a global hedging tool to respond to surprises during post Asian market hours.
- The SGX FTSE China A50 Index Futures contract (“SGX China A50 Futures”) doubled its volume in November from a year ago to record its highest-to-date monthly and average daily volumes of 4.8 million and 238,447 contracts respectively.
- In December so far, we have traded an average daily volume of 455,847 contracts (which translates to an average daily notional turnover of approximately US$4.6 billion).
Macro-Environment: – Participation ranges across banks, hedge funds, pension funds, proprietary trading firms, asset management firms and individual investors – A record 21.9million contracts were traded in 2013, up 119% YoY – Upcoming Shanghai-HK Stock Connect is another step in China’s long term plan to open up its capital account to the world and internationalize the RMB – RMB300bn quota would add a fifth to the current US$216bn in quota through the QFII systems.
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