Market Views: What's next for HK-China Stock Connect?

While the evolution of the Hong Kong-China Stock Connect has made accessing A-shares easier, obstacles around trading rules remain. What's key to strengthen the scheme?
Market Views: What's next for HK-China Stock Connect?

Most would consider the Hong Kong-China stock link schemes a sucess since it was first launched five years ago, which just had its birthday on November 17.

Investors have increasingly warmed up to the links connecting onshore bourses in Shenzhen and Shanghai. The average daily turnover of northbound trading under the Shanghai-Hong Kong stock connect has grown close to fourfold, from Rmb2.8 billion ($400 million) in 2014 to Rmb10.8 billion ($1.54 billion) as of October end this year. 

As of October end, northbound volumes have been far higher than those heading south. The total trade volume heading north amounted to Rmb17.4 trillion ($2.47 trillion), more than twice the HK$8.7 trillion ($1.12 trillion) recorded heading south. Chinese equities look set to draw even more capital from overseas investors as the onshore market continues to open up. 


Institutional investors such as Washington State Investment Board, for example, have considered handing out A-shares-focused mandates. Meanwhile global index provider MSCI is gradually increasing China's weighting in the widely followed emerging market benchmarks, further enlargening a country that already takes up the biggest portion (33%) of its MSCI Emerging Markets Index. It further increased China A-shares weighting in its Emerging Markets index on November 26.

Yet for all the success of the Stock Connects, more could be done. The universe of stocks eligible for trading under the schemes is limited, while day trading is not allowed in China.

Plus if A-shares internationalise further, it is possible the the stock links will have to ease current trading hurdles to accomodate further influxes of foreign capital. There are signs that this could be possible. Ahead of MSCI's initial inclusion of A-shares, the People's Bank of China increased the daily trading quota of both ways of the links

We we asked a set of experts the following question: What key steps should China and Hong Kong take to develop Stock Connect over the next five years? 

Five specialists offered their takes.

The extracts below have been edited for brevity and clarity.

Alan Li, portfolio manager
Atta Capital

Alan Li
Alan Li

Differences in the trading day and trading hours are still a problem for both Hong Kong and mainland investors. In addition, differences in the public holidays between mainland China and Hong Kong means there is a case that [on some days] mainland investors cannot trade Hong Kong stocks even when the Hong Kong market is still open for trading, and this is the same case for Hong Kong investors when trading A-shares.

It’s hard for investors to control risk when the market is volatile on those specific days. That’s one of the reasons why most funds and institutional investors still prefer QFII [Qualified Foreign Institutional Investor] rather than Stock Connect, even if it is higher in cost. However, after all these years, it appears that the regulators on both sides have no intention to solve this issue.

Patrick Wong, head of China business development and client management
HSBC Securities Services

Patrick Wong

There is a need to finalise and implement the CNY (onshore renminbi) foreign exchange flow to settle Stock Connect in Hong Kong. Given the increasing volume that uses Stock Connect as well as multiple index providers including China A-shares (for equities) and China Interbank Bond Market (for fixed income), demand on CNH (offshore renminbi) will increase significantly. Finalising CNY foreign exhcnage flow would help to solve the potential problem of liquidity drying up in CNH.

Also, implementing a super special segregated account (SPSA) mechanism at a manager level would significantly ease the sell process significantly. This would help traders to place the sell order in a more efficient way, particularly for those index tracking portfolios. 

Regarding the investment scope, the expansion of China A-share coverage and inclusion of different securities such as the new Science and Technology Innovation Board (Star board) would certainly further fulfill investors’ demand. Moreover, the availability of offshore hedging tools such as index futures listing in Hong Kong would be key for offshore investors to increase their exposure in China A-shares. 

Another suggested enhancement is to shorten the holiday table for Stock Connect, allowing offshore investors to connect with China A-shares market in a more comprehensive manner.

Sally Wong, chief executive
Hong Kong Investment Funds Association 

Sally Wong

For many foreign institutional investors, Stock Connect has in effect become the channel of choice because the infrastructure set-up and modus operandi are, by and large, in line with commonly-accepted international standards.

Of course, there are areas to improve on, for example account structures, trade flow efficiency, holiday arrangements and the product range; but as the exchanges have been working diligently to continuously enhance the system, we believe that Stock Connect will remain key to providing access.

However, to complement the enhancement in Stock Connect we need to come up with a holistic long-term roadmap to introduce more fundamental changes. With the importance of China in the global economy, and the steady inclusion of A-shares in global indices, foreign investors’ allocation to A-shares will only increase, while A-shares’ role in diversified portfolios will, over time, become sizeable on a stand-alone basis.   

To support this development, listed Chinese companies need to make more corporate information needs available in English and enhance the quality and timeliness of their information disclosures. And, as their stakes increase, foreign investors will want to engage more with listed companies’ management and become more vocal in exercising their shareholders rights. Having a robust infrastructure and corporate culture to meet these needs will be pivotal.

In addition, the current rules on disclosure of interest, short swing profits rule, and the cap on foreign holdings pose major challenges and should be clarified and/or modified. All these will require legislative or other fundamental changes, and will take time. But enhancements on these fronts will be needed to facilitate meaningful participation by long-term investors.

John Sin, head of asset servicing, Greater China 
BNY Mellon

Compared with the RQFII/QFII scheme, there a several reasons for Stock Connect’s popularity: quicker access, true delivery vs payment settlement, better execution, ease of funds repatriation and no quota limits.

John Sin
John Sin

The key challenges for Stock Connect are its limitation to China equities, the short settlement cycle, the unavailability of securities lending and the operational framework limiting the participation of global and local custodians to support CNY FX and funding. 

Looking ahead, the Hong Kong Stock Exchange is developing a Distributed Ledger Technology (DLT) network for Stock Connect, giving full visibility to the end-to-end transaction flow for the very first time. This makes post-trade parallel processing possible.

In addition, it is expected that there will be a harmonisation of FX and funding among the access schemes to allow CNY FX and funding through investment service providers, as well as the introduction of an omnibus trading account structure for greater operational and cost efficiency.

Gary O’Brien, regional head of custody product
BNP Paribas Securities Services

Since its launch, Stock Connect has become the favourite route for investments into Chinese equities for international investors, given its alignment with global norms. But there are a number of areas that need to be worked on to improve efficiency, reduce risk and provide greater opportunity to investors.

Gary O'Brien
Gary O'Brien

Later in 2020 we should see the implementation of a post-trade, pre-settlement platform based on Distributed Ledger Technology (DLT) to reduce settlement risk and increase transparency in the settlement preparation process. This project will open HKEx to new technical possibilities and digital opportunities. This could include enhanced data solutions on market trends, share prices, daily volatility and other items  via Application Programming Interfaces (API) on a daily or intraday basis.

These technology enhanceents could help enhance securities lending and borrowing solutions to reduce the risk of buy-in. If applied correctly, this would create new marketplaces for broker dealers to increase trading and reduce risk for investors. Meanwhile, there needs to be further refinement of the hedging of positions utilising onshore CNY, with a focus on on enhancing liquidity for brokers and custodians to facilitate investor settlement.

Finally, I would recommend a focus on instrument coverage and Connect scheme alignment. Today, Stock Connect and Bond Connect require different funding models and regulatory obligations and they utilise different technology and market infrastructure. Aligning them better via more evolved technology would benefit providers and reduce settlement costs for investors, and give exchanges and market infrastructure a common build for future enhancements.

In addition, some listed and unlisted instrument classes that are unavailable to investors through the Connect schemes could likely be facilitated with relative ease under a digitised model, ensuring Stock Connect’s impressive growth in coming years.

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