Made-in-China a must for Chinese bourse link investors

[HONGKONG] Four months after Chinese equity investors got unprecedented leeway to send their money outside mainland markets, the only thing they seem interested in buying is more Chinese shares.

Stock purchases by mainland investors through the Shanghai- Hong Kong exchange link are concentrated in Chinese brokerages, banks and state-backed companies whose shares trade in the former British colony. Hanergy Thin Film Power Group, which gets more than 99 per cent of its sales from China, was the most- purchased stock through the connect in Hong Kong during February, according to the latest monthly exchange data.

The bourse link, which marked one of China's biggest steps to open up its capital account and broaden investment options for the world's most-populous nation, has done little so far to spark interest in the more than 1,300 companies based outside the mainland that trade in Hong Kong. Investors are instead loading up on the stocks they know, especially dual-listed Chinese businesses that trade at the biggest valuation discounts since 2011 in Hong Kong.

"The purpose of the stock connect scheme is to introduce a new base of investors to both A shares and the Hong Kong market," said Ronald Wan, chief executive of Partners Capital International Ltd. "But it seems on the part of Hong Kong, the stock connect does not really serve that purpose."

Chinese investors purchased a net 30.2 billion yuan ($4.9 billion) of Hong Kong stocks since the link's Nov 17 debut through yesterday, 12 per cent of the available quota. There's been more interest the other way, with foreigners taking up 41 per cent of their 300 billion yuan investment cap.

China Minsheng Banking Corp., Haitong Securities Co. and CSR Corp. are among the most popular Hong Kong shares traded through the link, exchange data show.

"It will take time to broaden out as investors tend to go with what they know," said Mark Konyn, the chief executive officer of Cathay Conning Asset Management, whose parent oversees more than US$94 billion. "Potentially the two-way flow is significant but most of the story relates to the opening up of China's capital account and people tend to focus on inward instead of outward investment." Mainland brokerages don't offer much research on Hong Kong equities, another reason for their clients to steer clear, Partners Capital's MR Wan said.

The city's stocks may be a tougher sell right now given mainland investors are riding a world-beating rally at home. The Shanghai Composite Index surged to an almost seven-year high this week, with turnover climbing to a record. The gauge has gained 48 per cent through Thursday since China delivered a surprise rate reduction on Nov 21. It lost 0.4 per cent today as of 10:25 am.

"If you follow domestic Chinese investors' perspective, if they have a rallying domestic market, then they're not in the best of terms with Hong Kong at the moment emotionally," said Mikio Kumada, a strategist at LGT Capital Partners Ltd., which oversees about US$40 billion. "We're not too hot on Hong Kong stocks either because they're not the cheapest in the world, nor do they have the best growth story."

The MSCI Hong Kong Index, which includes local companies such as Sun Hung Kai Properties and Power Assets Holdings, rose just 1.2 per cent since late November through yesterday. It's still equally expensive as the Shanghai gauge, priced at 15 times estimated earnings compared with 14.6 for the mainland benchmark.

The prospect of Federal Reserve rate increases will weigh on Hong Kong stocks, especially property, said Uwe Parpart, the chief strategist at Reorient Group. The city's peg to the dollar means US rate decisions influence borrowing costs.

Hong Kong-listed Chinese companies, known as H shares, also haven't kept up with the mainland rally, climbing just 13 per cent over the past six months. Dual-listed shares are trading at a 36 per cent premium on the mainland, the widest gap since October 2011, according to the Hang Seng China AH Premium Index.

Haitong Securities shares cost 38 per cent less in Hong Kong than in the mainland, while China Minsheng trades at a 23 per cent discount. They've been two of the stocks most favoured by mainland investors, along with Citic Securities and Shanghai Electric Group.

State-owned rail companies CSR and China CNR Corp. have also been popular. That's because there's speculation that additional government spending will benefit the industry, said Sam Le Cornu, who oversees about US$3 billion in Asian equities at Macquarie Funds Management.

"Chinese equities trade on policies and rumor, they're just following where they can get the most return," said Kay Van-Petersen, a strategist at Saxo Capital Markets. "It's not necessarily that they don't value that access. It's just that they see now better opportunities in the mainland. The timing just happened to come like that."

BLOOMBERG