Date
23 January 2018
MSCI's upcoming inclusion of A-shares in its key indexes is expected to have a deep impact on the investor mix, market structure, and investor mentality in China in the long run. Photo: CNSA
MSCI's upcoming inclusion of A-shares in its key indexes is expected to have a deep impact on the investor mix, market structure, and investor mentality in China in the long run. Photo: CNSA

Foreign investors begin piling into China A-shares on MSCI theme

More foreign capital is set to flow into China’s A-shares as MSCI prepares to include the stocks in its emerging market index from June. The upcoming move will have profound impact on the investor mix, market structure, and investor mentality on the mainland in the long run.

Most foreign funds have had low exposure to A-shares in their asset portfolios. But recently we’ve seen many applications being lodged for launch of A-share funds on the MSCI theme. The offshore ETFs tracking A-shares more or less reflect the mentality of overseas investors.

Chinese oil giants have outperformed on the mainland market in the first week of 2018. China Petroleum & Chemical Corporation, or Sinopec, surged 15 percent within four trading days, and PetroChina rallied over 6 percent.

Northbound buying of PetroChina gained traction recently. It’s believed to be a sign that foreign investors have bought into A-shares ahead of the MSCI inclusion in June.

Foreign capital flow into A-shares through stock link program saw a noticeable increase since December. The northbound net buying crossed the 3 billion yuan mark three times within the last month. The inclusion into MSCI is a milestone and marks a turning point for foreign investors.

Nevertheless, mainstream foreign institutional investors won’t act like retail investors in China. The recent price surge of Chinese oil giants is largely driven by rising oil price. We’ve seen price rally of relevant oil stocks both on the mainland and in Hong Kong. The Hong Kong market is more attractive from a valuation perspective.

Mainland market will be attractive for foreign investors as long as China’s economic growth stays above 6 percent in the medium to long term. Investors won’t wait until June 1; instead, they would move one month early or gradually increase their holdings from now.

In the short run, the MSCI inclusion may lead to only limited capital flow into A-shares. However, the actions of foreign institutional investors will be a key factor for the market this year. Foreign investors are likely to continue adding exposure to bluechip stocks through stock link programs. It will gradually change the investment style and help shift the mindset of mainland investors to value investment.

The inclusion in MSCI will be reflected on three indices — All Country World Index (ACWi), Emerging Market Index and Emerging Asia Index. It’s estimated that there are US$2.8 trillion in funds tracking MSCI’s ACWi, US$1.5 trillion of capital tracking the EMI and US$200 billion tracking the Emerging Asia Index.

Due to the MSCI inclusion, US$2.8 billion, US$7.7 billion and US$1.3 billion are expected to flow into A-shares tracking the three indices respectively, based on the respective initial weighting of 0.1 percent, 0.75 percent and 0.7 percent.

That adds up to some US$11.8 billion initial capital inflow into A-shares. That amount is very limited compared to the massive trading volume of the mainland market. But there will be more capital flowing into China as the weighting of A-shares increases in the future.

Institutional investors and foreign investors will play a bigger role in the mainland market, which will eventually lift the overall risk-adjusted return.

In addition, the valuation system of Chinese market will integrate with international standards as China further opens up the capital market. Fewer companies will obtain excessive valuations in the future. Also, the volatility and turnover rate are likely to drop as the market becomes more mature.

This article appeared in the Hong Kong Economic Journal on Jan 8

Translation by Julie Zhu

[Chinese version 中文版]

JC/RC

Senior investment banker

EJI Weekly Newsletter

Please click here to unsubscribe