• Fri
  • Oct 3, 2014
  • Updated: 1:32am
PUBLISHED : Friday, 18 October, 2013, 4:31am
UPDATED : Sunday, 20 October, 2013, 8:07am

Hong Kong should scrap its stamp duty on share trading

The 10 basis-point rate may not sound like much but it is easily enough to discourage high-frequency traders from dealing in the city's market


As the writer of the South China Morning Post’s Monitor column, Tom Holland attempts each day to make sense of the latest developments in business, finance and economic affairs in Hong Kong and mainland China.

To support its unsuccessful attempt to list in Hong Kong, Chinese internet retail giant Alibaba argued that the city's share of Asian stock market trading was in severe decline.

A high-profile initial public offering from a big technology company, insisted Alibaba executives, was just what the Hong Kong stock exchange needed to revitalise its flagging market.

It is true that trading activity in Hong Kong-listed shares is relatively limp by regional standards.

In the first nine months of this year, Hong Kong's average market velocity - the value of shares traded each month as a proportion of total market capitalisation - was just 44 per cent.

As the first chart shows, that's the lowest among East Asia's major stock markets. In contrast, Japan's market velocity is almost four times as great at a blistering 161 per cent.

But the reasons activity in Hong Kong is so limp have nothing to do with a shortage of attention-grabbing offerings.

Part of the explanation is the relatively high proportion of listed stock held by controlling shareholders. According to data from Bloomberg, the free float of the Hong Kong market is just 55 per cent, compared with 80 per cent for Japan.

But the tight grip of tycoons and mainland state enterprises on the local market is only partly to blame for Hong Kong's lacklustre trading volumes.

The main reason is the Hong Kong government's stamp duty on stock transactions.

Every time a share changes hands on the Hong Kong stock exchange, the buyer and seller each pay 0.1 per cent of its value in tax to the government.

That might not sound a lot, but 0.1 per cent - or 10 basis points - is easily enough to deter high-frequency traders from dealing in Hong Kong's market.

These are fund managers who use computer programs to trade large quantities of shares at lightning speeds in an attempt to profit from momentary small mis-pricings.

They are big players in Japan, significantly boosting local volumes, and lately they have moved into other regional markets including Australia. But with the margins they expect to make on their trades typically less than 10 basis points, Hong Kong's stamp duty is enough to shut them out of the market.

The government, regulators and stock exchange don't see that as a bad thing. They argue that the absence of high-frequency traders protects Hong Kong from sudden bouts of volatility like the "flash crash" of May 2010 in which the US stock market dropped 9 per cent in a matter of minutes before instantly bouncing back.

But that argument is disingenuous. Hong Kong already has circuit-breakers to prevent such abrupt sell-offs.

Meanwhile, ordinary investors suffer, both from reduced liquidity, and from the cost of stamp duty.

The stamp duty rate may be low, but it compounds over time. Assuming just one portfolio rebalancing a year, it can easily knock five percentage points or more off a pension plan's return over 30 years.

On top of that, the imposition of a stamp duty means share prices are lower than they otherwise would be. That means companies pay a higher cost of capital, which reduces their willingness to invest, damaging the overall economy.

To add insult to injury, the government doesn't even need the money. In the fiscal year that ended in March, the stamp duty on share deals raised just HK$20 billion, less than 5 per cent of the government's total revenue.

Given that in the same year the government ran a surplus of HK$65 billion, it could scrap the stamp duty on stocks without even noticing the difference.

The government could even profit. As the largest shareholder in Hong Kong Exchanges and Clearing, it would benefit from the increase in exchange earnings generated from the resulting rise in trading volumes.

It's what's called a no-brainer.



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This article is now closed to comments

Might I also point out that derivatives are not considered shares and are not charged any stamp duty. The derivatives market is already the private stomping grounds of the big boys club and presently quite insulated from the ordinary investor. This is a grave failing of government policy (SFC) as it reduces investor choice, safeguards vested interests, and virtually guarantees profiteering.

It is quiet odd that investors can easily access the warrant and other structure products market through their bank but have to go through hoops and hurdles to access the HSI index futures and HSI index futures options market. Warrants on the HSI index and HSI index futures options are essentially the same products, since warrants behave in the exact same way as options. However, the warrant market limits investor choices (one cannot write or sell naked warrants) and is more difficult to understand being non-standardized. In stark contrast, the options market furthers investor choice (one can write options or sell naked options) and is easier to understand being standardized.

If anything, the financial markets must be opened up such that ordinary investors are able to easily access the derivatives market to ensure that they too can enjoy greater choices and stamp duty free trading.
Tom, I strongly disagree with abolishing the stamp duty on share trading for the purported reason of increasing transaction vol umes.

1. HKD 20 billion on a surplus of only HKD 65 billion is a substantial amount.

2. It would only make sense for the government , from a revenue standpoint, to consider abolishing the stamp duty if it were conclusively demonstrated that an increase of trading volumes from abolishing stamp duties would lead to a HKD 20 billion increase in government earnings from its shareholdings of HKEx.

3. The real culprit for lackluster volumes might have to do with the exorbitant cost of equity trading in Hong Kong. Commissions, brokerage fees, exchange fees, and other levies in Hong Kong are relatively higher compared to other markets. For example, online trading of 1000 shares of HSBC would cost approximately HKD 200 to 250 at most brokerages. For comparison, the same trade would cost USD 7 to 10 in the US markets, or HKD 55 to 80.

4. Mandatory minimum bid ask spreads increase the cost of trading and discourage transactions. How does it make sense to have a minimum spread of HKD 0.05 for a stock priced at HKD 5.00? In the US market, the spreads can be USD 0.01 for stocks priced over USD 50! These spreads are determined by the market, not the exchange. Minimum spreads exist mostly to safeguard profits for market makers (sometimes called liquidity providers).

Instead, I propose to abolish minimum bid ask spreads.
I'm not seeing a problem with discouraging HFT. It exists only to make skimming worthwhile and destabilises markets in the blink of an eye.
We don't need "high frequency trading". This is is not "investing". This is gambling.
If you want to do this Tom, go to Macau!
Why doesn't Mr. Holland write an article about how banks should lower the cost of their brokerage fees instead of slagging off the Government about charging a minor levy?
Such odd reasoning this morning.

So the government should give up 5 percent of its revenue so that the stock exchange will attract more high frequency trading? Why? What is the benefit to society of more high frequency trading? Especially without stamp duty, it will be zero. How on earth does HK benefit if more, mostly overseas, hedge fund algorithms come and play on our stock market? Let's double the stamp duty instead and chase more of them away. If the expected profit of a trade < 0.1% stamp duty, then it is not a trade we want to entertain.

And please don't give me the market efficiency and liquidity bee-es. These high frequency boys are trying to make money, mostly at the cost of ordinary investors. When the going gets tough and you need liquidity the most, they will be nowhere to be found. Also, we have had perfectly adequately effecient and liquid markets for decades before high frequency trading even existed. We can perfectly well do without, and it is certainly no argument to abolish the stamp duty.

20 billion HKD is a lot of schools, hospitals, poverty measure and so on, surplus or no surplus. Also, it is one of the few taxes in HK that actually falls on the wealthy, asset-rich tycoon class that otherwise pays zero property taxes, zero salary taxes, zero dividend taxes and zero wealth tax.

Mr Holland really is missing the big picture here.


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