China Moving To The Big Stage

Jan. 9 (Bloomberg) -- China took a “big step” toward opening its capital markets by approving stock index futures, paving the way for increased investment in the world’s fastest- growing major economy.



The China Securities Regulatory Commission said yesterday it may take three months to complete preparations for index futures, agreements to buy or sell an index at a preset value on an agreed date. The government also approved margin trading and short selling, when investors seek to profit from declines in shares, according to a commission statement on its Web site.

“They’re taking a big step forward in developing their capital markets and allowing people to express their positive and negative views on stocks,” Invesco said in a statement. Invesco, which invests in China as part of its Asia Pacific business that had $26.8 billion of assets as of Sept. 30. “You’ll have more people participate in the market and thus greater efficiency.”

Increased investment in Chinese equities may help narrow the gap between prices of shares traded in both Hong Kong and the mainland. Companies in China’s benchmark Shanghai Composite Index trade at 33.9 times 12-month trailing earnings compared with 20.9 times for the Hang Seng China Enterprise index in Hong Kong. A potential long-term development is more clarity in the market now that there’s more liquidity in the market for the true valuations of the companies that are dual listed.

China, whose economy grew 8.9 percent in the third quarter of 2009, currently bars overseas investors from trading yuan- denominated stocks and bonds on the mainland except through a so-called qualified foreign institutional investors program, which has approved 94 international firms. Foreign ownership of fund management companies is restricted to 49 percent.

Index futures may help ease fluctuations in the world’s third-largest equity market by value after the Shanghai Composite Index doubled in 2007, then slumped 65 percent in 2008 before rebounding 80 percent last year. Until now, Chinese investors could only profit from gains in equities.

China is going to the direction of freedom for its markets and more flexibility for its investors so it’s good news. More liquidity in the futures leads to more investors as you have a bigger pool of tools. You can be long on the future and short on the stock.



Allowing short-selling in China probably will spur the start of more hedge funds in Asia. Short selling is when investors sell borrowed stock in the hope of profiting by buying the securities later at a lower price and returning them to the shareholder.

Rules for the index futures will deter participation by retail investors, said JPMorgan Chase & Co. Investors will be required to put up 10 percent of a contract’s value to buy, sell or short CSI 300-based futures as collateral, according to rules published on China Financial Futures Exchange’s Web site in 2007. The bourse has been conducting mock trading in the securities since October 2006. The value of the futures contracts will be points of the CSI 300 multiplied by 300 yuan, according to the trading rules the exchange set.

Investors will need to spend 105,000 yuan ($15,379) to buy a single futures contract when the CSI 300 is at the 3,500 level, establishing a “cost barrier to retail participation. These initiatives will provide tools for institutional investors to hedge risks and should reduce market volatility in the long-term. Citic Securities Co., China Merchants Bank Co., Ping An Insurance Group Co., Industrial Bank Co. and Shanghai Pudong Development Bank Co. are the most-heavily weighted stocks on the CSI 300.

Comments: The article basically says it all. As things stand, with so much restrictions on foreign funds participation, coupled with a monolithic broking business (i.e. relatively benign equity margin business and minimal leverage by participants) - China equity markets is already very huge. The combined daily turnover for China exchanges is nearly US$25bn.

In comparison, HK's figure is around US$5.7bn. Seoul's figure is US$3.2bn. Taiwan's at US$3.7bn. Can you imagine when markets in China opens up a little bit more to foreign participation??!! HK is getting a lot of attention from large companies wanting to list overseas because their legal infrastructure and transparency are a lot better and is of global standard. You and I know that China will take a looong time to do both well. To companies, HK is as good as listing and tapping into China funds swell.

Back home, the smaller exchanges have to carve out their own niche. I have said this for the umpteenth time, let investors do day-trading short selling - meaning they have to cover by end of day or face buying in consequences. What's so bad about that? I think it will boost daily turnover by at least 20% on Bursa. What is so bad about selling first, since that same person will have to cover by end of the day. It is not the same as short selling and holding that short for an extended period of time, which presents a higher risk to the markets.


p/s photos: Sharon Xu

Delving Further Into HK Equity Market

Hong Kong has been trying to court new listings as it deepens its equity market, which has been increasingly dominated by mainland China listings in recent years. Hong Kong exchanges have been putting a particular emphasis on companies from the Commonwealth of Independent States (CIS), including Russia and Kazakhstan, as well as Mongolia.

Ernst & Young notes that the Hong Kong Stock Exchange will be the top fundraising exchange in 2009, with US$17.7 billion raised, or 18.7% of the global total. In 2010, Hong Kong could raise as much as US$47 billion in IPOs.

The aluminum company Rusal was set to be the first Russian company to list in Hong Kong in December 2009, but its listing was deferred due to concerns about its outstanding debts and corporate governance issues. The Hong Kong Securities and Futures Commission granted approval in December, but the stock will trade in lots of 200,000 shares to prevent retail investors from potential losses. The FT's Lex says "regulating by a nudge and a wink" could backfire by encouraging retail investors to lever up to buy the stock.

Inflows from China and accomodative monetary policy stemming from Hong Kong's U.S. dollar peg have added to the liquidity in Hong Kong's market in 2009. Hong Kong's monetary agency has been intervening heavily in the FX markets to maintain the peg, with only some of its interventions sterilized. In H2 2009, new public offerings have picked up strongly after a credit-crisis-induced lull.

In 2008, Hong Kong outstripped the fundraising capabilities of Tokyo and Toronto and was second only to Shanghai in pre- and post-IPO fundraising. However, fundraising abilities fell sharply in 2008 and early 2009 compared to 2007. Hong Kong also attracts both local and international retail investors. The development of Hong Kong Depository Receipts (HDRs) opened up the possibility of new listings from Russian, Indian and Middle Eastern companies. In 2007, foreign investors accounted for 43% of the market turnover and foreign and domestic institutional investors accounted for 65%.

In 2009, Hong Kong's equity market has jumped sharply on expectations of improvement in economic conditions in China and a huge surge in domestic liquidity. Abundant liquidity has attracted new listings in H2 2009 and narrowed the valuation gap between shares that trade in Hong Kong and China. As liquidity conditions are likely to remain into 2010, some analysts suggest that the equity market could rally further. However, any sign of tightening could spark a correction.

A s of December 8, the Hang Seng Index has surged 95% from a four-month low on March 9 and 53% YTD. Shares in the benchmark are valued at 17.4 times estimated earnings, compared with an average of 13.7 times during the past five years. Hong Kong-listed Chinese stocks traded at a 17% premium over China-listed shares as of December 8, according to the Hang Seng China AH Premium Index. This is below the 31.5% average since 2006.

In the Hong Kong Monetary Authority’s most recent quarterly report (December 2009), the central bank said that a reversal of the region’s massive fund inflows could spark “sharp corrections” in domestic asset markets. Hong Kong's H-share market (mainland companies listed in Hong Kong) has not fallen as sharply as the mainland market. This seems to suggest that H-share investors are more optimistic than mainland investors about any coming tightening in Chinese monetary policy. However, it probably is more a reflection in the differences in liquidity between the markets. A-shares are facing liquidity constraints that H-shares should avoid.


The Hong Kong stock market has benefited from strong growth in China and a large boost in liquidity. Monetary authorities have been intervening in foreign currency markets to defend the upper bound of the Hong Kong dollar's (HKD) peg against the U.S. dollar (USD), which has required selling local currency for USD. This boost to liquidity looks to continue as the overnight bank rate remains close to zero. A return to growth in Chinese exports would help Hong Kong equities as well. In H1 2009, 16 companies listed in Hong Kong to raise a total of US$2.6 billion. An additional 19 companies planned IPOs in H2 that could raise US$23 billion. Several of these IPOs slumped on their first day of trading in September/October 2009, with China South City tumbling 30% on its debut. The long list of planned IPOs remaining in H2 may fetch lower than expected valuations as investor appetite for new shares appears to be waning.

The gap between A-shares (listed in Shanghai and Shenzen) and H-shares (listed in Hong Kong) has fallen since February 2009. As of September 22, A-shares trade at an 18% premium over H-shares, down from a 59% premium in February 2009 and high of 90% hit in early 2008. As of September 22, stocks listed in Shanghai and Shenzhen (CSI-300 index) have fallen 17.3% from their August 4 peak on concerns about liquidity. Shares in Hong Kong (Hang Seng index) have gained 4.4% over the same time frame. Mainland shares are down because of a slowdown in bank lending, tighter credit restrictions and a release of previously locked-up shares. Hong Kong is not affected by these dynamics, and its liquidity comes mostly from global funds which are not facing liquidity constraints. Citi expects the gap to widen in the last two months of 2009.

Capital controls are the main impediment to arbitrage between A-shares and H-shares. In spite of a halving of mainland share values over the eight months to July 2008, China's three markets (Shanghai, Shenzhen and Hong Kong) still account for 9.6% of the world’s total stock market capitalization (unadjusted for free float). That is well behind the US, at 30%, but puts it ahead of Japan, at 8.3%. While Hong Kong's position is secured and Shanghai is increasingly the venue for high-profile listing, Shenzhen continues to struggle to reinvent itself, for example with a new SME exchange.


p/s photos: Sharon Xu

What The Experts Are Saying About Emerging Markets Part 2

Regional Performance:

Asia (Ex-Japan): Asian equities have outperformed mature markets in 2009 thanks to continuous foreign institutional investor inflows amid diminishing risk-aversion among global investors and relatively resilient macroeconomic fundamentals. Markets had gained 46% YTD as of August 31 (78% since October 2008) with India (68%) and Indonesia (75%) the best performers, and China (39%) and Malaysia (36%) the laggards. Sri Lanka posted an exceptional 131% gain due to the end of a 26-year civil war, a US$2.5-billion loan agreement with the IMF and the government's positive stance on reforms and liberalization. Asian markets have recovered 54% of the losses incurred in 2008 (peak to trough, down 59%).

Latin America (LatAm): LatAm equities has outperformed the other emerging markets' regional indexes by rising 59% YTD to August 31 (99% since it hit bottom in November 2008), with strong performances in Brazil (71%) and Colombia (55%). The laggards are Argentina (41%) and Mexico (34%). Overall, LatAm equities market have recovered 46% of the 2008 crash, after falling 68% peak to trough.

Eastern Europe, Middle East and Africa: Equities market went up 42% YTD to the end of August and 77% since reaching bottom in March 2009. Turkey (66%) and Russia (59%) lead the mark, while Morocco (-3%) and South Africa (16%) have underperformed. Eastern Europe, Middle East and Africa stock markets have recovered 39% of the sharp correction induced by the global crisis, after falling 66% peak to trough.

Recent EM market Dynamics:

• Emerging-market stocks ended higher on November 18, heading for their highest level in 15 months. The gap on yield for developing vs. developed country debt fell due to higher commodity prices and speculation that the U.S. would keep low interest rates until 2012. David Spegel, the head of emerging market strategy at ING Financial Bank NV in New York, says there is “some positive sentiment and upside favoring for high beta countries…Investors are expecting that the Fed will remain on hold for a long time and recognize it as a buying opportunity.” (Bloomberg, 11/18/09)
• WB President Robert Zoellick says the U.S. has a limited ability to stop the USD decline, while IMF head Dominique Strauss-Kahn says the USD has fallen within a normal range, proving resilient to the crisis. Asian authorities “expressed concern that the global stimulus, especially the flood of liquidity pumped out by central banks, could create asset bubbles and inflation, such as in commodities.” (WSJ, 11/14/09)
• According to Citi, "Latin American stocks face the risk of a rebound in the U.S. dollar, in the middle of which could be the region’s steepest rally in almost two decades. The biggest fundamental risk of a decent correction in regional equities is, therefore, a bounce in the dollar…As markets enter 2010, the timing of the first Fed move will come closer and the dollar could bounce, triggering a more severe correction in regional equities." LatAm equities are more likely to suffer a correction early in 2010 than at the end of this year. Citi reiterated its preference for Brazilian over Mexican equities. In the face of debt downgrade risk, Mexican stocks are "underweight." (Bloomberg, 10/27/09)
• Developing-nation stocks headed for a steep three-day slide as concern mounted that central banks may rein in stimulus spending and companies reported lower profits. The MSCI Emerging Markets Index dropped 2%, reaching an accumulated retreat of 4.1% during the week. Stocks in Russia, Turkey, Hungary and Indonesia fell more than 2% while the suffering of large companies in South Korea and Poland was felt in their indexes. During 2009, the MSCI measure for emerging-market equities has rallied 64% as governments pumped about US$12 trillion to spur growth and as signs of recovery drew investors to higher-yielding assets. (Bloomberg, 10/28/09)
  
• "Equity fund inflows into the BRICs have reached US$32.3 billion this year (US$10 billion above 2006). Brazil has been the best performer as equity investors have pumped in US$2.44 billion in October (nearly double that of China at US$1.3 billion) due to its position as one of the world largest commodity producers, strong growth in China and the broader optimism about global economic recovery. The strong data in the developing world and a growing view among investors that these markets are likely to offer the biggest returns as their economic growth outpaces the west have attracted US$63.1 billion in inflows this year. This compares with outflows of US$75.6 billion in developed world equity funds." (FT, 10/23/09)
  
• After India withdrew its monetary stimulus and increased its inflation forecast, emerging-market stocks fell the most in seven weeks as the MSCI Emerging Markets Index declined 1.3%. The yen rose as investors sought refuge. The Shanghai Composite Index decreased 2.8%, the steepest decline among benchmark equity indexes worldwide, after an early drop in metal prices. (Bloomberg, 10/27/09)
  
• Market correction is expected this year as China and other countries cut stimulus funding, since the rally in global markets is basically liquidity-driven, says Peter Westin, the chief strategist at Aton LLC. Earlier in October, Bloomberg reported that investors were throwing money into the riskiest emerging markets at a remarkable pace, buying as if the global financial crisis was over. Emerging-market funds have absorbed more than US$40 billion so far this year, according to fund tracker EPFR Global. "That means that last year's outflow of US$40.1 billion has been completely erased," said Andrew Howell, an emerging-markets strategist at Citi. "We tend to get nervous when inflows surge, suggesting excessive optimism. However, at this point it seems early to get too worried." (Bloomberg, 10/22/09, 10/13/09)
  
• "For veteran emerging-market investor Mark Mobius and executive chairman of Templeton Asset Management... China remains the biggest investment destination for emerging-markets funds...Asia and emerging markets overall remain 'solid long-term investment opportunities.' " However, he recommends caution when it comes to short-term investment due to high volatility in today’s markets. (WSJ, 09/30/09)
  
• Emerging markets now are "too large to be ignored," despite the misconception that emerging economies have small, illiquid and volatile financial markets. Their market capitalization now represents 30% of the world’s market capitalization (as much as that of the U.S.), 50% of the global economy and the world’s top growth prospects, though they have only a 12% share in the MSCI All Country World Index. (FT, 09/28/09)
  
• "Developing-nation equities capped their steepest weekly decline in more than two months on mounting concern that a rally has outpaced economic growth after an unexpected drop in U.S. home sales and factory orders." Markets have not corrected and the economy showed a disappointing reaction to stimulus, says Marc Faber, the publisher of the Gloom, Boom & Doom report. (Bloomberg, 09/25/09)
  
• According to a Reuters report, Latin American stocks reached a new 2009 high on September 22, 2009, while Brazil's currency rose to the highest level in a year after the improvement of the country's ratings. Brazil's real strengthened 1% to 1.799 per USD, its strongest since exactly a year ago. The LatAm stock index rose 1.02% to 3,643.10, and the broader emerging markets' stock index added 1.27%. One day earlier, Bloomberg reported that stocks from developing-nations dropped 0.9% after trading at the highest level relative to profits since 2000, according to the MSCI Emerging Markets Index.
  
• "Emerging market stocks contracted the most this month after Chinese companies reported worse than expected earnings and Russia's economy contracted by a record amount, creating concerns about an economic recovery. The MSCI contracted 1.4%. On August 3 the MSCI closed above 855.47 on for the first time since the collapse of Lehman Brothers in September, as speculations of an easing to the global recession were bolstered by a positive report on U.S. manufacturing and rising commodity prices. In Asia, stock indices were supported by better than expected earnings from energy producers due to higher oil prices." (Bloomberg, 08/13/09)
• "Moody's reiteration...of Mexico's existing sovereign credit rating (Baa1), with a stable outlook, does not alter Citigroup's view that the risk of a ratings downgrade is a threat to Mexican equities later this year. Accordingly, the positive market action in response to the Moody’s announcement (including a rally in the peso through P$13.00/dollar) may be overdone." (Citi, 08/12/09)

p/s photos: Sharon Xu