New stock scheme: less toot, more chug
Flash back to October 30, 2007: Comments from then premier Wen Jiabao about a through train, or the ability for mainland investors to freely buy Hong Kong stocks, sent the Hang Seng Index to a peak of 31,638.22 points - a high not seen before or since.
Flash forward to April 10, 2014, and Premier Li Keqiang makes a far more substantial statement of commitment to a revival of the 2007 plan - let's call it "through train two" - with specifics on quotas and a timeline, and the Hand Seng barely limps over the 23,000 level. What happened?
Through train two is smaller in scale. Mainland investors will initially be given 250 billion yuan (HK$314 billion) of quota to buy Hong Kong listed shares, or just 4½ days' trading volume for the Hong Kong exchange. Moreover, the massive premium gap between A and H shares has been whittled away to less than half the peak seen in January 2008, offering less scope for trading gains from arbitrage.
"In August 2007 when Wen Jiabao talked about the through train, the … A-share market was trading at … nearly a 200 per cent premium [to H shares]," said Yonghao Pu, the regional chief investment officer, northern Asia-Pacific, at UBS Wealth Management. "Today the valuations are more fair and investors are much more realistic about the growth expectations [of the mainland economy]."
There has been a lot of quota allocated to investors allowing offshore accounts to invest in domestic China securities, and for mainland investors to go offshore. Mainland officials have granted a combined US$173 billion to the domestic, foreign and renminbi institutional investor schemes. This has opened A and H shares to the same investors.
"The last time we were talking about the through train, the Hang Seng rallied by approximately 90 per cent. It's unlikely we will see a repeat of that. What's different since is we've had greater access to the market via increases in the [renminbi qualified foreign institutional investor] and [qualified foreign institutional investor] quotas," said Dixit Joshi, the head of Asia Pacific equities at Deutsche Bank.
Most analysts and strategists these days are focused less on the arbitrage opportunity between A and H shares, but are looking at Hong Kong stocks that would appeal to mainland investors, largely because there are no equivalents on the domestic market.
"The mainland investors will focus on those quality names that they cannot already buy from the A-share market," said Grace Tam, global market strategist, JP Morgan Asset Management.
Offshore investors will use quota from through train two to buy mainland stocks that are supported by government policy, such as clean energy.
There is also growing expectation that MSCI will include A shares in its China Index, spurring offshore interest for that market.
Mainland brokerages listed in Hong Kong should benefit as they will be booking the orders from mainlanders investing offshore. "The QFII and RQFII were more handled by foreign brokers ... this will be handled more by local brokerages," said Francis Cheung, the head of China-Hong Kong strategy at CLSA.
The upshot is that through train two has provided less of a trading pop - there has been less arbitrage opportunity to exploit - but investors are seeing lots of other opportunities. Ultimately, through train 2 should prove exciting because this version should actually happen and it flags that the mainland market is moving to full liberalisation.
"Initially the scale is small; but the potential is big," said Elvin Yu, the head of regional institutional business at RCM Asia Pacific.