Yuan scare: Why China is putting on hold a major cross-border investment scheme
The standoff between China’s central bank and global investors short-selling the Chinese yuan is poised to put off a long-awaited scheme giving individual Chinese investors direct access to Hong Kong stocks.
The qualified domestic individual investor (QDII2) programme was expected to get a go-ahead last year as part of Beijing’s efforts to further liberalise the capital account. A pilot scheme had also been planned at the Shanghai free-trade zone, a testing ground for major economic and financial reforms.
But on Friday, Shanghai mayor Yang Xiong told reporters that no specific timetable on the scheme had been set yet, adding that the local government was consulting relevant authorities on the issue.
“It’s difficult to give a clear-cut timetable on the implantation,” Yang said. “We want to make sure that regional and systemic risks can be controlled and will launch the planned financial liberalisation measures at the free-trade zone one by one when the time is right.”
Analysts said Beijing’s green light to the scheme could be at least several months away.
“Apparently, the focus is now on reining in capital outflows,” said a source close to Shanghai financial authorities. “No concrete step would be taken in the coming months towards the launch of QDII2.”
A depreciating yuan has become the primary concern for Chinese financial policymakers as fears mount on the possibility of fund outflows undermining the world’s second-biggest economy.
After a war of words between the state media and George Soros over the billionaire investor’s claims that a hard landing of the Chinese economy is inevitable, Premier Li Keqiang has made it clear that there is no basis for the yuan to fall further. Beijing is now expected to put in place stringent measures governing foreign exchange transactions to check capital outflow.
Under the planned QDII2 scheme at the Shanghai FTZ, local residents would be allowed to directly invest in overseas equities and properties, particularly Hong Kong-traded stocks, through banking accounts opened inside the zone.
Chinese mainland media had earlier reported that individuals with financial assets of over 1 million yuan would qualify for the programme.
The long-awaited liberalisation would follow the Hong Kong-Shanghai stock connect scheme allowing wealthy mainland Chinese access overseas-listed equities.
“Technically, QDII2 would likely incur a capital flight to H shares (Chinese companies listed in Hong Kong),” said Zhou Ling, a hedge fund manager at Shanghai Shiva Investment. “Seasoned A-share investors should understand that it’s the right time to increase H-share holdings.”
On Friday, the China-listed A shares traded at a 34 per cent premium to their Hong Kong-listed counterparts.
However, worries have also grown that notoriously speculative mainland investors would use QDII2 to convert more local-currency assets into foreign currencies, betting on a further devaluation of the yuan.
Chinese investors used only half of the 250 billion yuan quota under the Shanghai-Hong Kong stock connection system as of Friday, reflecting their tepid response to the price difference between A and H shares.
Under the stock connect scheme, a retail investor is unable to direct his money out of the mainland unless he buys H shares through a local brokerage. But QDII2 would give investors punting on exchange rates the opportunity to convert assets into foreign currencies before using them for stock or property purchases.
Thousands of mainland investors keen on owning Hong Kong stocks have taken advantage of regulatory loopholes to invest in H shares in the past decade. The cross-border trading system that links the Shanghai and Hong Kong stock exchanges provides arbitrage opportunities between A and H shares but has failed to narrow the price gap since its debut in November 2014.
“Those who want to buy H shares are already there,” said Wei Wei, an analyst at West China Securities. “QDII2 could be a double-edged sword for the mainland’s financial system as some currency speculators could use it to transfer money abroad.”
Beijing has reiterated that the proposed QDII2 reflects China’s commitment to open up the capital account and internationalise the stock market. It is also supposedly designed to broaden investment channels for wealthy individuals increasingly looking to allocate assets globally.
The State Administration of Foreign Exchange in 2007 announced individuals would be allowed to directly buy Hong Kong stocks, but the so-called “through train” scheme was never put in operation as regulators made an about-turn over worries about capital exodus.