1. Newsroom
  2. SZ-HK Connect: Sanguine Over The Pedestrian Market Response
Menu
Insight 26.08.2016

SZ-HK Connect: Sanguine Over The Pedestrian Market Response

SZ-HK Connect: Sanguine Over The Pedestrian Market Response

The approval of the Shenzhen–Hong Kong (SZ-HK) Connect by China’s State Council came with little fanfare. A muted market response normally underpins a listless, typically minimal impact event.


However, the nonchalant market response, which was essentially the equivalent of a shoulder shrug, overshadows what is likely a more favorable outlook for Chinese equities, the economy, and investor risk appetite, in our view.

Similar to the Shanghai-Hong Kong Connect that allows foreign and Chinese investors to trade on and offshore Chinese equities, the commencement of the SZ-HK adds an additional 880 stocks to the 567 already available. A larger concentration of Shenzhen equities is new economy, including technology and healthcare stocks, compared to Shanghai listings which predominately consist of state owned enterprises and banks. In aggregate, the main boards of the Shanghai and Shenzhen indices total $7.4trn, second to the S&P’s $19.7trn index and above Tokyo’s exchange of $5trn.

The SZ-HK Connect acts as a turning point in sentiment, as the second mainland link with Hong Kong follows a disappointing MSCI outcome this summer when the index compiler denied China’s A-shares into its benchmark indices. MSCI’s decision echoed many investor concerns, particularly those regarding repatriation limits, which would squeeze fund managers faced with redemptions. The early year correction in China’s equity market that led to circuit breakers and trading suspension remains fresh on investor minds.

While the cautious approach partially explains the market response, investors do appear more comfortable with the RMB. The SZ-HK announcement came a year after the People’s Bank of China (PBOC) surprised markets and devalued the currency, which has since depreciated 4% against the USD, following a one day drop of almost 2%. Coupled with better communication from the PBOC, economic data also portends well for currency stabilization. Foreign exchange reserves have hovered around $3.2trn for most of the year, as the precipitous drop last year was triggered by local accounts looking to settle overseas debt.

China’s deflationary environment is also improving. July’s producer price index contracted 1.7%, better the previous month’s 2.6% drop due to a month on month increase in metal prices. Easing deflation continues to reflect that more than a modicum of excess production has been removed; alleviating the real burden of debt and reducing the need for the central bank to cut interest rates that would further instigate the RMB.

Directionally, China’s reform remains on track, and investors should continue to expect ongoing evidence of further market liberalization and RMB internationalization. But supporting Chinese equities is also a lackluster backdrop of low global rates, which now includes nearly $13trn of negative yielding bonds. When the RMB joins the IMF’s Special Drawing Rights (SDR) in the beginning of October, it should be noted that China’s RMB will be the only SDR currency that supports positive nominal and real bond yields.

The aforementioned remains supportive for Chinese equities over the medium and longer term. Besides the official inclusion of the RMB into the SDR, the MSCI is expected to review the A-share inclusion later this year, as the SZ-HK connect addresses one of the group’s concerns over repatriated capital. Improving market and economic outlook should feed into elevated risk appetite for the asset class. The initial market response suggests some reservations remain, which only makes us more sanguine.


ChristopherChu.jpg

Christopher Chu
Assistant Fund Manager - Asia

 

Expertise

Impact investing - Contributing to a more sustainable future

What are the key features of impact investing?

Read more

Most read

Insight 19.02.2020

Changes in consumption patterns

Despite being fast-moving and quite unpredictable, changes in consumption patterns are expected to reshape the economic landscape.

Insight 15.04.2020

The Case For Frontier Debt

Fixed-income frontier markets have seen significant growth in both importance and liquidity over the past decade. While still mainly thought of as part of global EM investments, frontier markets have “grown up” and deserve to be considered separately.

Insight 30.06.2020

UBP Investment Outlook 2020 Reset

The Global Economy at the Crossroads

Further reading

Insight 31.07.2020

Gold/Silver: the early stages of a long-term bull market

Spotlight - Despite the impressive 30% rally for gold and 70% rally in silver from the March lows, the precious metals are likely still in the early stages of a long-cycle bull market.

Insight 31.07.2020

COVID-19: UBP keeps you up to date

Since this coronavirus appeared, UBP has provided its clients with guidance and support as we all tackle this unprecedented global health crisis. We give you regular updates on everything from our own safety protocols and the recommendations issued by the authorities to our experts’ latest analysis on the effects of the pandemic on the world economy and financial markets.

Insight 29.07.2020

Podcast - The beginning of the USD bear market

Our Global Head of Forex Strategy, Peter Kinsella, shares his outlook for the US dollar for the months ahead.