China has begun to see its first margin financing and securities borrowing transactions being conducted by foreign investors and overseas experts expect such trades to pick up mometum in the near term.

The increasing deal flow should create a healthy balance of long-short positions that will drive price discovery and could help astute active fund managers and institutional investors achieve higher returns, either from astute investing or accruing revenues from lending assets.

Under China’s expanded Qualified Foreign Institutional Investor (QFII) programme, a number overseas investors sealed their first margin financing as well as securities borrowing and lending (SBL) transactions in late December. UBS, Citi, HSBC and Standard Chartered were among those that were involved in the trades. 

SBL transactions involves the temporary loan of securities by a lender to a borrower, which it often uses to support short positions it is taking on the positions. Margin financing consists of loans that borrowers use to acquire financial assets.

The transactions marked another critical step in China’s plan to open up its financial markets, and came after China's financial regulator expanded the QFII’s investment scope in September 2020. The changes took effect in November last year.

Currently, shares listed on the Shanghai and Shenzhen's mainboard, Shenzhen's ChiNext market as well as the Shanghai's science and technology innovation board, commonly known as the STAR market, are qualified for margin lending.

HIGHER YIELD

Stewart Aldcroft, Citi Markets
& Securities Services

Stuart Jones, the Hong Kong-based chairman of the Pan Asia Securities Lending Association (Pasla), said the newly added margin financing and securities lending business could prove to be important for investors.

“The trend is clear that investors are looking for more alternatives and diversified products under QFII that will enable them to gain additional yield,” he told AsianInvestor.

Stewart Aldcroft, managing director at Citi Markets & Securities Services, agreed the new opportunities offer a small but notable potential for returns 

“In lending stocks, for some cases, 1% to 2% could be added to the annual return for some market players. It might not be significant for those big players but prominent for smaller ones,” he said. 

Leverage is a very attractive business for banks, brokerages and investors as the additional returns can be quite positive, Aldcroft added.

According to a November 2020 survey jointly conducted by Pasla and AsianInvestor, the estimated assets under management (AUM) of buyside respondents with securities lending programmes is just over $2 trillion, while those institutions without a programme have a combined estimated AUM of roughly $1.9 trillion.

The survey gathered insights from more than 150 senior industry executives, about a third of which were buyside firms. 

In lending stocks, for some cases, 1% to 2% could be added to the annual return for some market players

Presently, the overall stock lending business in Asia still lacks scale and depth, according to Aldcroft. However, he believes it should expand quite strongly in the next few years. Such growth will depend, to some degree, on the maturity of China's market.

According to a survey conducted by HSBC last November, only 10.5% of equity investors used QFII to buy onshore securities. Unless the usage of QFII expands, China's securities lending business will remain small. However, the HSBC survey stressed that QFII is a viable route to access China's market, supported by the Chinese government commitment to open up the domestic market.

The bank's study added that China's regulators have made it clear they are not holding back on their continued efforts to open up to international capital. As such, HSBC expects the access channels to China to continue to evolve to meet investors’ needs.

But in a country where short-selling activities are relatively new, Jones believes more could be done to support the marketplace.

The regulators in China have been open to talks with market players; however, the country’s ecosystem still has room for improvement, such as bringing about a higher level of transparency and improved due diligence practices, he noted.

LONG-SHORT BALANCE

Stuart Jones, Pasla

So far, the growth of China's securities market has been supported by foreign inflows as well as domestic trades.

According to data from China Securities Finance Company, the only institution that provides margin loan services to qualified securities companies in China, the total margin loan volume has more than quadrupled, rising 321% from end-November 2019's Rmb60.2 billion ($9.3 billion) to Rmb193 billion as of end-November 2020. It didn’t provide a breakdown of foreign inflows and local trades.

Experts highlighted that the market could reach more depth in long-short positions by growing institutional investors' involvement, given that margin trading, which requires a thorough understanding of additional investment risks and requirements, may not be suitable for the retail investor.

The long-short position practice is relatively new in China, compared with the US and some other countries, signalling room for growth, Aldcroft said. Jones added that China could introduce futures and block trades to develop the market further under the relaxed QFII scheme.

SBLs are helpful hedging tools that can support the rebalancing of investors’ portfolios, he said. “Such business provides more balance and promotes a healthier capital market.”