Time to let the barbarians through the gate
Xi Jinping's first term has seen a series of concrete steps taken towards opening up the country's capital markets. With the five-yearly Party Congress starting this week, it is now time for China's leadership to take the leap from granting access to giving global investors real influence on the market.
The full integration of China's financial markets in the global financial system remains a long term project. Foreign ownership of Chinese stocks and bonds remains low, at around 2% of the overall market. Outbound mergers and acquisitions broke records last year, but capital flows have more recently been smothered, with only a few channels — such as the southbound Stock Connect — being available to Chinese investors that want to diversify offshore.
For global investors and money managers, however, there is little reason not to see the first term of Xi's presidency as a success. Three Connect schemes have launched, existing institutional investor programmes have been streamlined, and the liberalisation of access to the onshore bond market access is largely completed.
The clearest sign that global institutions approve of the progress so far were the decisions by index providers taken this year. MSCI said in June it will begin including A-shares in its emerging markets indices starting next year. Bond index providers Bloomberg Barclays and Citi made similar announcements in February and March this year, respectively, also effective from 2018.
While full market access has now become a realistic goal, the Party Congress gives the opportunity to aim even higher. With Xi getting the chance to reboot key personnel across the branches of the Chinese market regulators, this is the best time to lay out a path for global investors to not just push for greater access but to obtain real influence over the shape and direction of those markets.
This is not just in the best interest of global investors — keen to safeguard their investments — but would benefit the Chinese side as well. Global investors are well-placed to advise on what reforms to prioritise and in which markets.
This may all seem like a pipedream and, to be clear, the chances of a seismic shift are practically zero. But there is already low-hanging fruit that can push the market in the right direction.
On the equity side, a clear signal would come from Chinese regulators scrapping the current combined 30% limit on foreign ownership of domestic stocks. China’s domestic stock market is dominated by retail investors, creating a sense of volatility both economic and political. Foreign investors can help greatly — but if China wants to benefit from long-term buy and hold investors in its market, it will need to give them access to the boardrooms.
On the fixed income side, many reforms are on the to-do list, ranging from bankruptcy laws to the deepening of the domestic interest rates derivatives offering. But an easy step would be to speedily implement the July decision to allow foreign rating agencies to launch independent businesses in China.
If there is one thing foreigners agree on about China's vast bond market, it is that domestic ratings are largely worthless for international investors. While the rules are now in place to allow international rating agencies to enter the domestic market, the authorities should speed up efforts to ensure they become operational sooner rather than later.
HSBC's long slog to obtaining a majority-owned venture for a securities company, a four-year process from the introduction of the rules allowing it to the actual business launch, is one we hope will not be replicated for rating agencies.
But the past five years of the Xi administration have clearly demonstrated that if there is a will there is a way. He has already made many steps in the right direction. Market participants should hope that his next term proves just as determined — and even more crucial to the opening up of China’s capital market.