Photographer: Johannes Eisele/AFP via Getty Images

Beijing Loosens Market Grip With Second Stock Link Unveiling

  • Regulators remove total quotas from exchange trading links
  • Shenzhen to Hong Kong connect should take 4 months to start

China’s regulators took another step toward opening their financial markets on Tuesday, unveiling a second channel for foreign investors to buy the country’s stocks while also lifting restrictions on asset flows.

The China Securities Regulatory Commission said it won’t impose an aggregate quota when trading starts between Shenzhen and Hong Kong exchanges, and the total cap will be removed for the existing Shanghai equivalent. There will be daily limits on net purchases for both programs. The link with Shenzhen should start in about four months, Hong Kong Exchanges & Clearing Ltd. said in a statement.

The long-delayed second link, which had been expected for more than a year, is part of China’s efforts to internationalize its capital markets and increase its global influence to something more in line with the heft of the nation’s economy. Barriers to foreigners wanting to trade the $6.5 trillion of mainland equities were one of the reasons that MSCI Inc. decided not to include the shares in its global benchmark indexes in June. Authorities in Beijing have also kept tight control over how much money leaves the country.

The removal of the overall quota marks the “further opening up of China’s capital account and I am surprised it came now given China’s capital outflow situation,” said Hao Hong, Hong Kong-based head of research at Bocom International Holdings Co.

Foreigners have used about half their 300 billion yuan ($45 billion) total quota for buying Shanghai shares since the program began. Chinese traders have shown more appetite for investing in Hong Kong stocks, with less than 20 percent of the 250 billion yuan quota left unfilled.

Chinese Premier Li Keqiang announced the State Council’s approval of the trading link earlier Tuesday. Officials have been reviewing plans to expand the exchange link to Shenzhen after starting the stock connect program between Shanghai and Hong Kong in November 2014. Overseas investors can also trade in China, the world’s second-largest equity market, through quota-regulated qualified foreign investor programs.

In explaining its June 14 decision denying China, MSCI cited the need for additional improvements in the accessibility to the mainland market. Tuesday’s move will help China as it continues to push for MSCI inclusion, said Charles Li, chief executive officer of Hong Kong Exchanges & Clearing.

Important Component

“I am sure Shenzhen connect is an important component of MSCI,” decision-making, Li said at a media briefing. “Now it’s actually happened, so that’s among many things that incrementally will make the A share market more and more accessible to international investors.”

Yuan-denominated shares listed in China are known as A shares.

The daily limits for the Shenzhen link will be the same as for Shanghai’s, 13 billion yuan for orders going north to the mainland and 10.5 billion for southbound traffic. The connect will also include small-cap companies listed in Hong Kong that have a market value of more than HK$5 billion ($645 million).

Investors buying into Shenzhen will have access to any stock in the Shenzhen Stock Exchange Component Index and Shenzhen Stock Exchange Small/Mid Cap Innovation Index that has a market value of more than 6 billion yuan, according to Hong Kong’s Securities and Futures Commission. Any company that’s dual listed in the city as well as Hong Kong will also be available, while buying shares traded on Shenzhen’s ChiNext small-cap gauge will be limited to institutional investors at the “initial stage” of the link, the SFC said.

Scrapping the total limit for flows in and out via the links won’t make much practical difference, said Francis Cheung, head of China and Hong Kong strategy at CLSA Ltd. in Hong Kong.

“Removal of the aggregate quota doesn’t make much of a difference because the quota for the Shanghai link was never hit and they said before the quota will be expanded if it was hit,” said Cheung. “I don’t think the daily quota will be removed because it was actually hit a few times.”

Tumultuous Time

The 21-month period between the start of the Shanghai link and Tuesday’s announcement was a tumultuous time for China’s markets.

The stock market surged before tumbling in a $5 trillion rout, while an unexpected devaluation in the yuan last August spooked global investors and spurred capital outflows. More recently, volatility in the benchmark equity index and the currency have fallen to multi-month lows as regulators restored stability. The Shenzhen Composite Index is down 12 percent this year, though it has risen 3.2 percent this week.

The link’s approval means “the Chinese government is really delivering on its promise to open up its markets,” said Sandy Mehta, CEO of Hong Kong-based advisory firm Value Investment Principals Ltd. “This continues to be a step in the right direction. Foreign investors will be looking again for stocks which they have not really been able to invest in before.”

— With assistance by Gary Gao

    Before it's here, it's on the Bloomberg Terminal.