“The inevitable must be accepted and turned to advantage.” So said Napoleon Bonaparte, and MSCI seems to concur with the French emperor’s strategy. That follows the major news this week – after three successive years of rejections – that it’s agreed to the inclusion of China’s A-shares in its benchmark emerging markets stock index.
Truth be told, it was always a matter of when, not if, this move was going to be made. For MSCI it was a glaring anomaly that one of the world’s most tracked indices lacked representation from the second largest stock exchange. By the same token, after the A-share market’s meltdown a couple of years ago – and the trouble international fund managers had selling their positions – it was also clear that market access issues made full inclusion problematic.
What was announced on Tuesday was a neat compromise that turned an awkward situation to the index provider’s advantage. MSCI has started small, opting only to include a more elite group of 222 A-share stocks. All of these are accessible via Hong Kong’s Stock Connect scheme with the Shanghai and Shenzhen bourses, thereby neutering the arguments against excluding A-shares on market access grounds.
The move has also been designed not to shift portfolios too radically when it takes effect from next June: the 222 selected shares will initially comprise just a 0.73% weighting in the emerging markets index.
In the fund management world this has probably been one of the most widely consulted decisions in recent history, with MSCI careful to ensure the biggest players were either on board or had their say. Chief among these was BlackRock, the world’s biggest money manager, which indicated the tide had turned when it stated in April that it backed the inclusion of A-shares in MSCI global indices. Fidelity, another key player, also told the Financial Times: “As access to China’s onshore equity market widens, it is natural for these stocks to be gradually included in equity market indices.”
After last year’s rejection by MSCI Beijing had professed not to be too bothered (see WiC329). This time round the Chinese authorities have tried not to appear overjoyed. Xinhua noted the index had been incomplete without A-shares The stock regulator the CSRC also said in a statement it “appreciated MSCI’s decision” and promised to further improve the systems and rules relevant to foreign funds investing in A-shares.
So what did other big institutional investors make of the decision to give greater influence to China’s $6.9 trillion A-share market? Portfolio manager Nick Beecroft from T Rowe Price said it was an event that had been anticipated for “some time” and while the initial impact would be “extremely modest”, over the longer term China looks likely to gain “substantial weight within those broader indices”. This means global investors will have to “dedicate increased time” to understanding the nuances of the A-share market. John Sin of BNY Mellon called it a “defining moment for the Chinese stock market”.
Helen Wong, HSBC’s chief executive of Greater China, was of the same view, calling it a “pivotal moment” and adding: “This is the start of a process through which Chinese equities will achieve a prominence in global investors’ portfolios that reflects the size and significance of China’s domestic stock market and its economy”.
The index in question is tracked by an estimated $1.6 trillion of funds. The expected fund flow to China could be small initially – up to $18 billion according to the index compiler’s own projection – but it has already given the Chinese market a boost. The CSI300, an index comprising the top 300 stocks trading either in Shanghai or Shenzhen closed at its highest level since December 2015 in the wake of the news.
The Wall Street Journal predicts that as international funds rebalance into Chinese A-shares consumer stocks like Kweichow Moutai, Suning Commerce and Dong-E-E-Jiao (see WiC313) will be gainers.
Meanwhile, local brokerage Huatai Finance calculates that financial stocks which will account for about a quarter of MSCI’s new weighting. This might suit those overseas investors with a more cautious view on China, since these shares tend to trade on the local market’s least frothy price-to-earnings multiples – and in the case of the big state-controlled banks can be considered too big to fail.
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