The period since 2017 has seen considerable breakthroughs in the liberalisation of China’s capital markets. Its capital markets are playing a key role as the country becomes a consumption-driven economy, seeking to break through the middle-income trap as it deals with an aging society and the threat of slower economic growth.
On this journey, Asifma and its 125 member firms stand as both participants and observers. A combination of these members and Asifam staff have contributed their experience and expertise to a report on China’s capital markets, and welcome efforts to introduce greater foreign participation.
Asifma views its role as an interactive one with China’s regulatory authorities, providing feedback on practical issues arising from policy change as viewed by its collective experts, as well as from an international perspective. As markets evolve, so does the need for regulatory wisdom and flexibility to encompass the needs of market practitioners, whether domestic or international.
Below are some measures that could help increase foreign institutional investment in China’s domestic capital markets, taken from Asifma’s latest China’s Capital Markets report.
One area China’s authorities could improve foreign institutional investment in A-shares and reduce settlement risk would be for the country to move to T+2 or T+1 (settling transactions either two days or one day after execution), and were it to allow DVP (delivery versus payment basis) to better protect investors. While this may be a longer-term solution we note that securities lending and borrowing may help address some operational challenges in the interim (for failed settlement).
Another positive change would be the furtherance of block trading. Although a China block trading window is available for QFII/RQFII investors, such a facility is not currently available to participants of Stock Connect. Brokers need access to block trading to better source liquidity to match large trades, especially during rebalance days.
Asifma also suggests that China excludes the shareholdings of onshore and offshore publicly-held funds or pension funds from the short-swing profit rule. In essence, this rule governs substantial investors (holders of 5% or more shares) of a listed company, requiring them to disgorge any profit from the purchase and sale of shares of a listed company within a six-month period.
If the holdings of separate clients/funds are managed by the same investment manager (or a manager that is part of a larger group of investment managers), as is the case for disclosure of interests in China, the 5% threshold may be reached much sooner. That would prevent further investment by the investment manager on behalf of all of its clients or funds in the relevant securities. This result unfairly harms investors whose investment manager is impacted by the rule and reduces the amount of potential investment by large global asset managers.
For these reasons it is important to clarify that holdings are calculated on an individual client/fund basis and not aggregated across the investments made by an investment manager on behalf of all of its clients/funds or across the investments made by a group of affiliated investment management companies.
Last, Asifma believes it is important to provide access to more onshore hedging tools such as bond repos, bond futures and other derivative instruments, to encourage foreign bond investments.
It is very common for global bond funds to invest on an onshore currency hedged basis, unlike equity fund investors. Therefore, it is crucial that foreign bond investors can easily hedge renminbi currency exposure through the onshore FX spot and forwards market.
Furthermore, foreign institutional investors would like to engage in interest rate hedging activities including using onshore interest rate swaps and bond futures. However, currently it’s not practical for them to access the onshore bond repo market.
This is primarily due to market format (pledge based repo), market documentation (which is not the same as what clients use in other markets), and lack of access to tri-party repo through the investor’s global custodian banking relationship. Solving these issues would help encourage them to use onshore repos.
Asifma’s full 2019 report on suggested reforms for China’s Capital Markets can be found at the following web address: https://www.asifma.org/wp-content/uploads/2019/06/final-english-china-capital-markets-report-2019.pdf