Howard Lee: Keynote speech - ASIFMA 9th China Capital Markets
Conference
Keynote speech by Mr Howard Lee, Deputy Chief Executive of the Hong Kong Monetary
Authority, at the ASIFMA 9th China Capital Markets Conference, Hong Kong, 29 November 2019.
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Riding the Wave of Portfolio Inflows into Mainland China
Mark (Austen), distinguished guests, ladies and gentlemen,
1. Good morning. Thank you ASIFMA for hosting this Conference in Hong Kong and inviting me
to speak. I am glad to see so many friends of the financial industry here today, from Hong
Kong and other parts of the world.
2. As you all know, Hong Kong has been going through an extraordinary period since this
summer. For those of you who travel to Hong Kong for this conference, I hope you have so
far found the situation on the ground less dramatic than what you might have seen from the
news. No doubt we have experienced some serious disruptions to traffic and interruptions
to operations of bank branches, but overall speaking the financial infrastructures and
markets in Hong Kong have continued to function smoothly, and they remain robust and
resilient. This clearly demonstrates their ability to withstand different types of shocks, as
they did multiple times in the past decades.
3. Earlier this week, Hong Kong successfully launched the US$13 billion IPO of Alibaba. This
deal would likely put us at the top spot of the global IPO league table again this year. While
that is a secondary listing, it certainly underlines the unique position of Hong Kong as an
international financial centre that connects the fast growing Mainland market to global
investors.
4. I know some of you may have doubts that the Chinese economy is actually slowing down in
face of trade dispute and deleveraging. That is true if we compare to the days when
Mainland GDP was growing at double-digit every year. But let's remember, a real growth of
6% is still a very respectable pace compared to economies around the world. And with
Mainland China's sheer size, a 6% GDP growth means adding some US$1.3 trillion nominal
value to the world's GDP in a single year. This is more than the total size of the Indonesian
economy, or close to that of Australia.
5. With such economic expansion and its deepening capital markets, China continues to be a
compelling investment theme for global investors. As an investment manager ourselves, we
are among the first offshore players in the Mainland's capital markets. Surely, for the past
eight or nine years since we invested in the Mainland, there had been some very challenging
times, such as the RMB exchange rate reform, the stock market turmoil and fear of
economic hard landing. But looking through these short-term ups and downs, two
unmistakable trends are consistently borne out by actual developments. The first is the
progressive opening of the markets, and the second is the growing momentum of
international investors' allocation to Chinese assets.
Hong Kong as an Ideal Platform to Go into Mainland China
6. The Mainland of China is home to the second largest stock market and bond market in the
world. While Mainland China's capital markets have long been rather difficult to access, this
paradigm is gradually changing.
7. In the old days everyone had to go through the different programmes of QFII, RQFII, CIBM
direct, with all the associated processes of applying for quotas, signing up new service
providers and counterparties, setting up new trading system, conforming to onshore rules,
etc. But the introduction of Stock Connect in 2014 and Bond Connect in 2017 are
gamechangers for a lot of international investors.
8. While the pre-existing access channels still cater for some investors like ourselves who
have already set up all the systems, the Connect schemes enable all international investors
to implement and manage their Chinese investments much more easily based on familiar
international rules and practices. They can continue to leverage their existing systems and
global partners, such as brokers, custodians and banks without the need to engage onshore
service providers. For example, Mainland China is one of the very few markets that require
direct holding of securities. But Bond Connect makes nominee holding possible to foreign
investors. This drastically reduces the complexities for them to settle trades and manage
assets.
9. The Connect schemes are fast gaining popularity among offshore investors. Up to
September, Stock Connect captured over 65% of foreign holdings of A-shares; its
Northbound daily average turnover doubled year-on-year to RMB42 billion for the first nine
months of this year. In just two years' time, Bond Connect has also quickly gained traction.
It now has over 1,300 investors from 31 jurisdictions, and 61 of the top 100 global asset
managers. In the first ten months of the year, it contributed to around 40% of the increase in
foreign holdings of onshore bonds; its daily turnover increased 2.7 times year-on-year, and
now accounts for more than 60% of the overall trading turnover by foreign investors.
10. And like other things we do, we build on the good start and keep working to make the
Connect schemes more attractive to international investors. We introduced in June a new
arrangement that will enable investors to obtain and hedge in CNY for the Stock Connect.
For Bond Connect, we have expanded the settlement cycle, introduced DvP settlement and
block trade functionality, and added an additional electronic trading platform. We
continuously listen to market participants, and are exploring further enhancements such as
expansion of tradable product scope under Bond Connect and launch of its Southbound leg.
Huge Inflow into Mainland China's capital markets
11. Given the much greater ease of investing in the capital markets in the Mainland of China,
foreign holdings of A-shares and onshore bonds increased rapidly by 73% and 93%
respectively in the past 2 years. But still, they represent only a small portion of the markets,
3% for the stock market and 2.6% for the bond market. This level of foreign participation is
of course nowhere near the much more open developed markets in Europe and America. It
is actually far lower than that of many other emerging market economies.
12. This clearly reflects a persistent under-allocation of Chinese assets by international
investors relative to China's economic weight. In recognition of this gap, and given the easier
access to the Chinese capital markets through the Connect schemes, index providers are
taking positive steps to bring the allocation more in line with the economic reality-
For equities, MSCI, FTSE and S&P all started to include A-shares in the past two years.
For this year alone, the rebalancing inflow into Chinese equities is estimated to exceed
US$45 billion. But this is just a start. Currently MSCI's inclusion factor for Chinese
Ashares is only 20%, accounting for less than 4% of the MSCI Emerging Markets Index.
There is a long way to go before full inclusion, leading up to over 16% of the index. By
back of envelope estimation, this could mean an additional inflow of at least US$200 billion
to A-shares. The FTSE Emerging Markets is a similar story. At an inclusion factor of
25%, China will only account for less than 6% by the end of the current inclusion process
next March.
For the bond market, the Bloomberg Barclays Global Aggregate Index started inclusion of
RMB bonds in April, which will attract around US$120 billion of inflows over the 20-month
inclusion process. But even upon completion, RMB bonds will only account for around 6%
of the overall index, leaving a big gap to fill considering that Mainland China is the world's
second largest bond market. In September, JPMorgan announced a 10-month phased
inclusion of Chinese government bonds into its benchmark emerging-market indexes,
starting in February 2020. Market estimates suggested that the inclusion could lead to
around US$3 billion of inflows into the onshore bond market per month. Mainland China is
also on the FTSE watchlist for future inclusion into its flagship World Government Bond
Index, with the next review in March next year.
13. The takeaway here is that, we are just seeing the tip of an iceberg in the big wave of
allocation to Chinese assets by investment managers. The pace would likely continue to
pick up in the next couple of years.
Hong Kong's Unique Position and what lies ahead
14. The vast opportunities in the Mainland and the Connect schemes offer a great example to
remind ourselves Hong Kong's unique value proposition. Under the "One Country, Two
Systems" principle, we maintain a regulatory regime closely aligned with international norms
and practices. At the same time, our close rapport with the onshore regulators ensures that
we are the best place to experiment capital liberalisation initiatives. We are the only place in
the world that practises an English and Chinese bilingual common law system that inspires
confidence from overseas and Mainland investors alike. We have an ecosystem of
topnotch financial institutions and professional services firms that are trusted by asset owners
and asset managers to look after their investments. These unique advantages cannot be
easily replicated anywhere else in the world.
15. Of course, apart from providing a convenient conduit for overseas investors to enter the
onshore equities and bond markets through the Connect schemes, Hong Kong's stock
market has long been a venue for Mainland companies to raise funds and for global
investors to get exposure to Mainland enterprises. Today, over 1,100 Mainland enterprises
are listed on the Stock Exchange of Hong Kong, with a total market capitalisation of nearly
HKD22 trillion and an average daily trading volume of around HKD60 billion.
16. And we are not standing still. We are doubling down on our work to enhance our financial
platforms, build more connections with the Mainland's markets and consolidate our
strengths.
17. One exciting example is the two-way cross-boundary wealth management connect scheme
for Greater Bay Area residents, announced earlier this month. This new Connect scheme
links up Hong Kong's asset management industry to one of the most economically vibrant
and wealthy regions in Mainland China, with a population of 60 million and a per-capita GDP
of some US$20,000. Guangdong is also home to some 290,000 high net worth families.
The wealth management connect will enable Mainland residents to directly invest in offshore
wealth management products for the first time. For fund companies, there will be
opportunities in product origination by developing products in Hong Kong to tap into the
Mainland investor base. Banks can base their sale and distribution operations in Hong Kong
to reach out to your Mainland customers. Asset management and treasury operations will
also benefit. We are working out the implementation details with the Mainland authorities
and I hope to be able to share more details with you soon.
Closing
18. To summarise my message today, we see before us the beginning of a huge wave of
inflows going into Mainland China's capital markets, propelled by index inclusion and
increasing openness of the markets. And the best and safest spot to hitch a ride of the wave
is via Hong Kong and the Connect schemes.
19. Hong Kong's fundamental strengths as one of the best places to do financial transactions
and manage assets are well in place. Capital flows freely into and out of the territory as
guaranteed by Article 112 of the Basic Law. The Linked Exchange Rate System,
underpinned by US$440 billion foreign exchange reserve, continues to anchor our monetary
and financial stability, as it has for the past 36 years. The resource and expertise of the
biggest global and Mainland banks in the region are concentrated in Hong Kong. And they
are well protected against shocks thanks to the ample capital and liquidity buffers.
20. In the last couple of months, I have talked to many dozens of people representing banks,
asset owners, asset managers, professional services firms. Many are in the audience today.
They all recognise the exceptional opportunities offered by Hong Kong, and see through the
current challenges we are facing, because they know Hong Kong has proven time and again
we will ride through difficult times and become even stronger than ever.
21. Thank you very much and I wish you an enjoyable and fruitful conference.