Traders Want Stock Fixes Ahead of China Joining Global Indexes

Updated on
  • Daily trading quota is one issue market wants to see resolved
  • Yuan liquidity, investor ID plan, holidays also raised

Traders are lobbying Hong Kong Exchanges & Clearing Ltd. for changes to the cross-border stock links with mainland China ahead of the country’s shares joining key MSCI Inc. benchmarks.

Chinese-listed companies will be added to gauges including the MSCI Emerging Markets Index in June, a move that could spur as much as $17 billion of flows into the world’s second-biggest equity market. But traders in Hong Kong said the two stock connects, which link HKEX with bourses in Shanghai and Shenzhen, may struggle unless certain issues -- including daily trading limits and details of an incoming investor identity system -- are addressed.

The trading links are a centerpiece of mainland authorities’ efforts to open their market to overseas investors, so much so that MSCI’s list of companies to be added are all available to buy through the connect. The system is also a core part of HKEX’s business strategy, and success during a period when global investors are expected to flood into China will go a long way to cement its role as a key part of China’s equity landscape.

“MSCI has made China A share inclusion a stock connect event by only having connect-eligible securities included,” said Neil McLean, head of execution trading for Asia ex-Japan at Nomura Holdings Inc.’s wholly owned Instinet Pacific. “It’s very important for our clients, the exchange and the Chinese that this works well. It will bring a new class of mature investor to the Chinese marketplace.”

McLean said he would like clarity on changes to the connect by the end of the year to give the industry time to prepare ahead of the inclusion date.

Here are the main issues that traders want resolved, according to industry participants who spoke to Bloomberg.

Daily Quotas

  • The daily net-buying quota is capped at 13 billion yuan ($1.96 billion) northbound and 10.5 billion yuan southbound each for the two links. Traders would like to see it removed altogether
  • MSCI planned two inclusion dates, in June and September, because of the quota, but traders may still need to spread transactions across several days, increasing tracking error risk from the benchmark
  • Instinet’s McLean, who said he has spoken to HKEX about the issue, said that at the very least the quota should be raised or removed around index events

Investor Identity System

  • Hong Kong and Chinese regulators are designing a new identity system for northbound stock connect to more quickly reveal who is behind each trade. Securities and Futures Commission Chief Executive Ashley Alder said in October the new system could go live in mid-2018 and will “by and large” reach the asset manager level
  • Talks between the SFC and China Securities Regulatory Commission continue, however, and the market is waiting to see if the final version will go further and require identification at the fund level for each trade, as is the case in mainland China
  • If that happens, it would affect how institutional managers trade because they would need to place transactions for each fund separately with their broker, said Cindy Chen, head of securities services at Citi Hong Kong, a unit of Citigroup Inc.
    • “If managers cannot do block trades and have to place the trade at fund level with the broker, then you will have a situation where one fund purchased the securities at one price and another fund purchased the same securities at a higher price,” said Chen. “This is the situation a manager wants to avoid.”

Holiday Trading

  • HKEX said in April it’s working on an arrangement to keep the northbound link open ahead of public holidays in Hong Kong to reduce the number of days when mainland markets are trading but the link is shut. 
    • This year traders will lose 32 days because of different holidays in Hong Kong and mainland China, together with closures due to settlement times
  • The holiday-related closures are “a fundamental issue,” said Stephane Loiseau, head of cash equities and global execution in Asia-Pacific at Societe Generale SA

Yuan Liquidity

  • Northbound trading has same-day settlement using offshore yuan. But the availability of the currency may become an issue, and there are fears of a squeeze during the MSCI inclusion period
  • Citibank’s Chen said she asked authorities to consider allowing Hong Kong banks to also tap onshore yuan
  • On Nov. 6 HKEX announced plans for initial settlement in Hong Kong dollars or U.S. dollars giving traders more time to find yuan by the end of each day

Lorraine Chan, an exchange spokeswoman, said in response to questions from Bloomberg that the parties in Hong Kong and the mainland involved in the connect system “communicate with market participants all the time,” and are considering ways to enhance the system. She also said that details around investor identification plans and holiday closings will be announced in due course.

MSCI said Wednesday that it had started a consultation to limit some Hong Kong indexes to stocks only available through the trading links. Under the proposal, securities including Link REIT and Hong Kong Trust & HKT Ltd. would be dropped from some gauges, the index compiler said.

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