HKEx's China stock futures to pose competition for SGX

Singapore

AS international fund interest in China is expected to climb, the battle to offer global investors hedging tools to manage their risk and exposure to Asia's largest equity market has gone up another notch.

On Monday, Hong Kong Exchanges and Clearing Ltd (HKEx) signed an agreement with index publisher MSCI to offer futures contracts on the MSCI China A Index.

This, some brokers said, could have caused SGX to tumble 3.74 per cent, or 29 Singapore cents, to end at S$7.47 on Monday. It was the biggest retreat by a blue chip in Monday's trading.

A Credit Suisse expert said: "The launch of China derivatives by the HKEx has always been one of the biggest risks for SGX. And if HKEx goes ahead with the launch, it would negatively impact SGX's profitability and share price.''

The MSCI China A Index comprises 421 large and mid-cap Chinese stocks denominated in yuan, traded on the Shanghai and Shenzhen exchanges. These will be accessible via Stock Connect upon the completion of MSCI's inclusion process in November 2019.

The new product is seen as a potential rival to Singapore Exchange (SGX) FTSE China A50 Index Futures, which was launched in Sept 2006.

The FTSE China A50 Index Futures is currently the only offshore futures contract tracking 50 Chinese A-shares and traded in US dollar. It is the biggest contributor to SGX's derivatives business, and generates about 40 per cent of the total derivatives volumes, enjoying a daily turnover of US$5 billion and notional open interest of US$12 billion. There is an estimated US$8 billion of ETF funds benchmarked to the index.

HKEx's latest product launch comes less than two weeks after MSCI said it would quadruple the weighting of Chinese shares in its global benchmarks later this year, to 20 per cent from 5 per cent - a move which would see the international fund flow into A shares via the Stock Connect increase substantially by US$70 billion to US$80 billion.

It also comes at a time when the A-share market is experiencing some volatility. Just on Friday, the Shanghai Composite Index tumbled 4.4 per cent, its biggest since October after some brokerages suggested investors should take profit. Before the plunge, the Shanghai benchmark index had risen 25 per cent while Shenzhen was up 34 per cent in the first two months of the year.

HKEx chief executive officer Charles Li said the volatile A share market shows it is important to have a hedging tool for international investors who trade A shares.

The new product is among a host of other derivatives launched by global exchanges including SGX over the years to help manage exposure to mainland Chinese markets.

When contacted, SGX said it welcomed steps to support China's internationalisation and increase investor access to Asia's most important emerging market.

"SGX is recognised globally as the one-stop, multi-asset platform to trade Chinese assets and manage risks comprehensively, across equities, currencies and commodities. This includes our 'all-China envelope' of risk management tools covering MSCI Emerging Market Asia and MSCI China, as well as FTSE China A50 futures, USD/CNH futures and iron ore futures and options."

For instance, global investors looking at China will also need to hedge currency exposure, and SGX is Asia's largest and most diverse FX exchange. As at end February, its USD/CNH futures saw an average daily turnover volume of US$3.3 billion, and notional open interest of US$4.1 billion.

With trading on a single platform, SGX offers its clients portfolio margin offsets across asset classes. For example, SGX CNH futures enjoys 35 per cent margin offsets with FTSE China A50 and 55 per cent with MSCI China Net Total Return.

"SGX market participants will benefit from an even larger liquidity pool for our suite of China equity derivatives, as the interaction of different trading venues will create more flows," SGX said.

Brett Fairclough, senior managing director, Virtu Financial, agreed that greater liquidity and transparency help reduce investors' costs and are essential to growing an efficient and competitive marketplace.

"Given China's latent potential as one of the world's largest capital markets, we are hopeful that the A-share products on SGX and HKEX have many multiples of growth ahead of them," said Mr Fairclough.

The Singapore exchange may have a first-mover advantage as this tends to be a sticky business, experts said.

HKEx will face competition from Singapore in the battle to become a China hedging hub.

One futures dealer who believes HKEx's offering will not threaten SGX's A50 Index Futures, said: "We are not sure if MSCI China A Index can take off. The launch date has not been fixed and remains subject to regulatory approval and market conditions.

"Even if it does, SGX can always lower its clearing fees,'' he said, adding that rather than direct competition, he saw potential arbitration opportunities instead.

However, the South China Morning Post quoted Henry Chan, chief investment officer of BEA Union Investment Management, as saying that the company could consider shifting to HKEX's new contract for hedging.

China's US$6.83 trillion stock market is mostly off limits to international investors, except for a small sliver for qualified foreign institutional investors (QFII) and two cross-border investment channels via Hong Kong called the Connect scheme.

The Connect schemes, launched in 2014 with Shanghai and two years later with Shenzhen, attracted 4.67 trillion yuan (US$698.4 billion) of equity investments into China last year, a jump of 106 per cent compared with 2017, according to exchange data. Foreign capital inflows to Chinese stocks this year is predicted to double to about 600 billion yuan from last year.