The dominance of China A-shares ETFs from BlackRock and CSOP is dampening Hong Kong-based managers’ willingness to develop products tracking A-shares, says E Fund’s executive director of operations Cory Chan

Hong Kong-listed exchange traded funds from BlackRock’s iShares and CSOP Asset Management tracking the FTSE A50 China Index are by far the most heavily traded of their kind in the city.

In the first six months of this year, turnover for the former was HK$119.5 billion ($19.3 billion) and for the latter HK$66.4 billion. The third-most traded ETF delivering A-share exposure is the Tracker Fund of Hong Kong with turnover of HK$53.3 billion, after which there is a drop-off to ChinaAMC’s CSI300 ETF, which had just HK$15 billion over the period.

By the end of 2010 there were 29 exchange-traded products with exposure to onshore China, and yet by the end of last year the figure had only advanced by four to 33, according to data from London-based research firm ETFGI.

Chan sees the dominance of the two leading China-focused ETFs in particular as counterproductive to product development and innovation.

“My observation is that product development of Hong Kong-listed A-shares ETFs has slowed down,” he tells AsianInvestor. “Since most investors seem only to be familiar with [the two products in Hong Kong tracking] the FTSE A50 index, it has become very difficult for other managers to counter this dominance and innovate in a cost-effective manner.”

E Fund has three ETFs tracking China stocks and bonds listed on Hong Kong’s Hang Seng Index: its CSI 100 A-share and CES China 120 products and a government bond index ETF.

It also acts as sub-manager for a Ucits ETF tracking the MSCI China A-share Index listed on the London Stock Exchange in partnership with London-based ETF Securities.

But Chan sees the lack of innovation from Chinese managers based in Hong Kong as a shame, arguing they enjoy an operational advantage in trading A-shares actively compared with global houses.

He points out that Hong Kong has the same trade date security settlement cycle as China, whereas managers in Europe must expect a longer execution process.

“The RMB clearing and settlement efficiency that Hong Kong enjoys gives it a defined advantage in product development,” observes Chan, adding that global fund houses lack managers and analysts specialising in A-shares and Chinese bonds.

However, Seoul and Singapore also share the same time-zone, allowing for timely cross-border securities settlement.

As Beijing rolls out its renminbi-denominated qualified foreign institutional investor (RQFII) programme globally, questions have been raised about how asset managers in Hong Kong can protect their first-mover advantage.

“In terms of the efficient transfer of funds into China, I do not see any other markets, especially in Europe and the US, commanding an advantage over Hong Kong,” Chan argues. “The RQFII scheme requires pre-funding, therefore onshore domestic brokers will only execute trades when cash is available in the custodian bank.”

Chan believes the key to improving secondary market liquidity for onshore China-focused ETFs in Hong Kong and elsewhere lies with managers improving communication with market-makers to better explain the investment rationale for a particular ETF.

He adds that there is also a need for greater education, noting that China’s equity market is still erroneously viewed as a single share class, whether it is A-shares or H-shares.

Announced in December 2011, the RQFII scheme was piloted in Hong Kong, giving managers in the city access to China’s capital markets.

It has since been extended to Frankfurt, London, Paris, Seoul and Singapore, with $40.61 billion in total quota has been awarded to 84 financial institutions as of June, according to data released by China’s State Administration of Foreign Exchange.

Last October Beijing granted Rmb50 billion in RQFII quota to Singapore, and just this month Seoul was included in the programme with Rmb80 billion in quota.