China-US hostility to benefit Hong Kong investors as stock benchmark is set to decouple from old economy

The escalating tensions between Beijing and Washington are turning into a gift for Hong Kong stock traders, offering them easy access to the fastest growing part of China’s economy.

With the Trump administration pushing legislation that, if passed, could lead to delistings of US-traded Chinese companies, some companies are gearing up for secondary stock offerings in the city to fend off the threat. Gaming company NetEase and JD.com, China’s second-largest e-commerce platform, have spearheaded the expected stampede by debuting in Hong Kong this month.

The transition to listings in Hong Kong will leave local traders with more choices to invest in among the mainland’s burgeoning industries – such as e-commerce, mobile gaming and artificial intelligence – and reshape the landscape of the city’s stock market, according to Jefferies Group and China Renaissance Holdings. It will also cement Hong Kong’s status as one of Asia’s top markets. It is already Asia’s third-largest stock market after China and Japan, with a capitalisation of US$5.2 trillion.

China’s new-economy stocks will probably make up roughly one-tenth of the weightings of the Hang Seng Index in 2022, according to the estimate by Jefferies, while China Renaissance predicts that such stocks will account for as much as 35 per cent of Hong Kong’s total market cap in the following five to 10 years. That would spur higher growth potentials, valuations and increased trading volumes.

“The bottom line is that the evolution of the Hang Seng Index over the next 18 months will largely shift the index to a pure China one with a significant tech, e-commerce and information technology weighting,” said Sean Darby, a strategist at Jefferies.

One major benefit from the shift for investors is that they will be able to ride on the 56-year-old Hang Seng gauge with less volatility, as the benchmark is expected to reflect more of the performance of China’s hi-tech industries that are less susceptible to the swings in the economy, he said.

That would diminish the role of financials and property developers that represent 60 per cent of the Hang Seng Index now. The two traditional sectors have been losing their fancy with investors after decades of expansion, particularly at a time when Hong Kong’s economy has plunged into a recession after the anti-government protests and the outbreak of the coronavirus epidemic.

With the start of trading of JD.com and NetEase, Hong Kong already boasts three of the four biggest Chinese companies trading in the US. Alibaba Group Holding, the largest among them and the owner of the South China Morning Post, completed its secondary offering in the city in November. Alibaba may join the 50-member Hang Seng Index in as early as August, with an initial weighting of 5 per cent, according to China Renaissance.

There are about 200 Chinese companies listed in New York and the Nasdaq currently, with market caps totalling US$1.2 trillion, Bloomberg data shows. Some 32 of them are qualified for secondary listings in Hong Kong, which has the edge over the mainland’s exchanges in terms of the base of international investors and more flexible listing rules, according to China Renaissance. The list includes e-commerce platform operator Pinduoduo, which rivals Alibaba and JD.com, search engine company Baidu and TAL Education Group.

Such deepening of quality listings will help quell doubts raised about Hong Kong’s status as a major financial hub after Beijing’s move to impose a national security law in the city reignited a fresh round of uprisings.

“It will benefit the Hong Kong market. Capital flow is already coming and that’s the reason why the Hong Kong dollar is strengthening,” said Hong Hao, managing director at Bocom International Holdings in Hong Kong, the investment bank unit of Bank of Communications. “Hong Kong will be an important offshore financial centre for China. Its status will improve, not deteriorate as many suggested.”

Hong advised investors to subscribe to all these forthcoming offerings going forward, as they are expected to deliver decent gains after listings.

 Shares of Alibaba have climbed 24 per cent since its listing in Hong Kong and those of NetEase have advanced 4.7 per cent. The stock of JD.com slipped 0.2 per cent on Friday after rising 3.5 per cent in debut a day earlier.

 While the American depositary receipts (ADR) and the Hong Kong-traded shares of the three companies are fully fungible, the arbitrage opportunity is few and far between, reflecting that investors in the US and Hong Kong have the identical judgment of the fair values.

 The premium Alibaba’s shares command over the ADRs averages 0.5 per cent since the stock began trading in Hong Kong and that gap has narrowed to 0.3 per cent over the past three months, according to Jefferies. The differences between the two types of securities for NetEase and JD.com are within 1.5 per cent on Friday, Bloomberg data shows.

One thing that could hold back the run-up on Alibaba, NetEase and JD.com is that mainland investors are not able to trade the stocks through the Stock Connect with Hong Kong now. The current rule excludes companies with secondary offerings from the cross-border investment scheme, and amendment of the regulatory rule is required before these companies can be available for mainland buying.

Some local companies in Hong Kong are also benefiting from the shake-up.

Hong Kong Exchanges and Clearing has been rewarded for a spate of reform measures the bourse operator has implemented to woo listings of new-economy companies since 2018. Its shares rose to a record high on Friday, taking its gain to 19 per cent this year against a 13 per cent loss on the Hang Seng Index.

 “If all these new-economy giants return and join Hong Kong’s stock benchmark, the trading volumes in Hong Kong will increase,” said Dong Yi, an analyst at Shenwan Hongyuan Group. “Furthermore, that’ll improve the industry structure of the Hong Kong stock market and attract more funds to track the benchmark.”