Keys to Success for Shanghai-Hong Kong Stock Connect

The long-term success of the Shanghai-Hong Kong Stock Connect (SHSC) rests on removing the many barriers to participation, including features of the programme that restrict trading strategies, introduce risk and create operational complexity, suggests a newly-published study.

Launched in November, the SHSC initiative provides international investors with direct access to China’s A shares market for the first time. However, the study notes that institutional investors continue to cite issues such as limited support for short selling, using renminbi (RMB) as the sole settlement currency and the hybrid (T+0/T+1) settlement cycle as obstacles to increased usage of SHSC.

The study, a white paper published by Celent and commissioned by the Depository Trust & Clearing Corporation (DTCC), the premier post-trade market infrastructure for the global financial services industry, notes that this hesitancy is compounded by remaining uncertainty over asset fungibility, shareholder rights and reporting.

Despite this, the paper concludes that the initiative, which is supported by the China Securities Regulatory Commission (CSRC) and Securities and Futures Commission (SFC), has achieved significant in-roads in the gradual opening up of China’s capital markets to international trading.

Regulators and the Hong Kong and Shanghai stock exchanges are working to resolve these complex issues as well as to address a unique requirement to ‘pre-deliver’ shares for all sell orders.

The paper explains that improvements in these areas should enable greater participation; pave the way to more A share representation in global equity benchmark indices (maintained by US-based index provider MSCI and FTSE Russell), which will in turn unleash substantial further investment in A shares longer term; and ultimately open up this significant market to more trading strategies and investors globally.

“We estimate these ‘workarounds’ will drive international holdings of A shares to US$428bn by 2017. Because they are committed to opening China’s capital account, regulators can be expected to expand quotas to meet investor demand,” said Dr. Neil Katkov, senior vice president (SVP) in Celent’s global Asian financial services group.

“The success of the SHSC, despite the challenges, is inspiring a wave of cross-border exchange initiatives involving China, Asia and beyond. Already, a Shenzhen-Hong Kong Stock Connect is slated to start later this year. Observers debate the extent to which this will be followed by links between Shanghai or Shenzhen and Taiwan, Singapore, Tokyo, New York and London. SHSC has also inspired a number of proposals for links between Asian markets outside of China.”

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