China’s capital controls may sink bid for inclusion in MSCI, again
China’s fourth attempt to get the country’s yuan-denominated A shares included in the MSCI Emerging Markets Index may end in failure, because the government’s current crackdown on capital flight is stifling the flow of funds and worrying global investors.
The latest sign came on Monday, when MSCI’s chairman and chief executive Henry Fernandez said in a Reuters interview that China’s crackdown on capital flows was a concern.
“If they reverse course and they restrict the ‘out’ door, then how can we?” Fernandez told Reuters. “It’s going to be hard for the MSCI to put the A shares into the index because we will not be doing a good service to our clients.”
China’s government has been cracking down on capital remittances to stem the flow of money out of the country amid the depreciation of the yuan.
The regulators last year also restricted the purchase of insurance products in Hong Kong by mainland customers, while ordering financial institutions to report any offshore cash transactions exceeding 50,000 yuan.
The Chinese currency weakened 7 per cent against the US dollar last year, weighed down by a strong dollar that’s rushing home, attracted by the US Federal Reserve’s interest rate increases.
Such measures won’t have a direct impact on foreign asset managers investing in the A-share market, but it does send a signal that China isn’t going to open the capital account further, said Ian Hui, global market strategist at JP Morgan Asset Management.
“I do think there is a possibility [for inclusion], but unless we are going to see some material improvement by the Chinese government, I will still lean towards a ‘no’ when MSCI does a review in June,” Hui said.
Jing Ulrich, managing director and vice chairman Asia Pacific at JP Morgan Chase, said: “China’s overall capital account opening will be slow this year. Stability will be the watch word for China in 2017, including economic, social, and financial market stability.”
She said China’s strict capital controls are not intended to be long-lasting, and she expects the government to loosen the restrictions if expectations about the yuan’s depreciation ease.
The A-share market is one of the world’s largest stock markets in terms of capitalisation, and investors will be disappointed if the inclusion doesn’t happen in the next five years, she added.
In a review released in June 2016, the compiler of the benchmark index declined for the third time to include China’s A shares in its Emerging Market Index, pointing out unsolved problems of accessibility and liquidity in the mainland market.
MSCI said it would not rule out the possibility of an inclusion before June 2017 if Chinese regulators made significant positive developments.
China made efforts to improve the accessibility of its stock markets for international investors in 2016, including the launch of the Shenzhen-Hong Kong Stock Connect scheme.
Inclusion in the index is an important avenue to attract foreign capital, as fund managers who use the MSCI as a benchmark for their performance are compelled to put money according to its weighting.
For now, inclusion in the MSCI may need to take a back seat to the more pressing concern of protecting the value of the renminbi, and stemming capital flight.
Fang Xinghai, vice chairman of the China Securities Regulatory Commission, hinted as much. At the World Economic Forum in Davos, Switzerland, he said China is in no rush to get mainland stocks included in the MSCI, as disagreements still exist between the benchmark maker and the regulator.
One such item of conflict revolves around the development of index futures. MSCI expects China’s index futures to be traded globally, but the CSRC insists this must be done “step by step”, Fang said.