Hong Kong
Uniquely positioned to connect China to the global funds industry, Hong Kong is doing just that, and it seems HKEx is just getting started

It’s a corner of the world where East meets West and the cultural wealth of China coincides with the order and affluence left over from British administration. In its official capacity, it’s the Hong Kong Special Administrative Region of the People’s Republic of China, an address that’s as formal as it is a mouthful. But there is poetry here, too—the Cantonese Heūng Góng translates to Fragrant Harbour, a name promising opportunity and adventure in equal measure.

Towards the end of 2014, the Hong Kong Stock Exchange (HKEx) embarked on one such adventure, connecting with the Shanghai exchange and launching the Shanghai-Hong Kong Stock Connect. It allows investors to trade specific shares across the Hong Kong and China border. Now, almost six months on, Stock Connect has attracted A share trading from around the world, while HKEx reported record-breaking figures for 2015.

Stephanie Marelle, head of Hong Kong at BNP Paribas Securities Services, points out that these are still two very different markets, and challenges are unavoidable.

HKEx accepts that the culture difference was a significant issue to overcome, saying: “We had to find a way to connect the markets while respecting the differences between the current regulatory regimes in the mainland and Hong Kong. We also had to find solutions to the challenges of aligning two very different markets. The programme is based, generally, on home market rules.”

While Stock Connect had a good dialogue with regulatory bodies, Marelle says that, when trading northbound, BNP Paribas clients were still faced with problems, specifically in pre-trade controls.

She says: “The ownership of each stock needs to be identified, requiring pre-delivery to a broker the day before execution to allow for central checking.”

“Through these challenges the clients were potentially faced with counterparty, strategy and timing risks as well as issues of matching this process to their existing internal compliance and systems.”

Just a month after the launch of Stock Connect, BNP Paribas launched its solution to support UCITS investing in A shares through the programme. It integrates BNP Paribas’s securities services and registered broker businesses and means that assets will stay in custody with BNP Paribas, and that no additional securities would be delivered, as opposed to using the qualified foreign institutional investor (QFII) and renminbi QFII (RQFII), which is restricted by the quota allocation system.

Crucially, it will remove the need for transferring shares so far in advance.

“Clients do not need to bear additional operational or infrastructure costs and this is a real benefit that they are able to realise now,” said Merelle. “Stock Connect provides a viable, additional alternative to RQFII and QFII quotas and further opens up access to this exciting market for more investors. In time, accessibility will create a greater level playing field for investors as further developments to Stock Connect are rolled out.”

“As it all happens within our books, the trade now looks like delivery-versus-payment in a seamless manner.”

In the five months since Stock Connect launched, various institutions have implemented similar solutions to smooth over the lumps and bumps in the system, and the consensus seems to be that, as a whole, it’s been a success, both for investors and for Hong Kong as a financial centre.

A spokesperson for HKEx commented: “The arrangement enables Hong Kong to maintain a free-market economy that is based on capitalist principles and open to all. Hong Kong also has a large pool of financial-services professionals who have a wealth of combined experience working with companies from mainland China, mainland markets and the mainland’s rules and regulations.”

“Hong Kong is therefore an ideal point of access because of its strong ties with international investors as well as the mainland and its markets.”

Meanwhile, the project is still developing, and Hong Kong is strengthening its position as a major point of entry to the mainland Chinese market. As the first of its kind, success in Stock Connect could pave the way for other similar agreements. Already, HKEx is working on a model with the Shenzhen Stock Exchange.

“We expect the next step for cross-border trading after Shenzhen to be the licensing of derivative futures, which we hope can happen this year,” said HKEx.

“In addition, we have said from the beginning that the connect concept can be extended to other asset classes such as fixed income and commodities.”

As the renminbi continues to rise as a global currency, and gateways open up for overseas investors to get a look in to China, there is an air of optimism around the Stock Connect model, and the future of Hong Kong looks to be getting ever brighter.

Merelle says: “Hong Kong can be proud of what it has achieved in rolling out Stock Connect.”

“There has been some criticism on the level of take up but this should be put into context of the unique cross border trading solution, the differences in trading rules of both exchanges and the ambition for Hong Kong as the gateway to the internationalisation of the RMB.”

Ultimately, she says, what has been important, and will continue to be, is the cooperation between financial firms and their regulators, and the shared desire to build an investment environment that’s competitive and attractive to the global marketplace.

“As Stock Connect developments are rolled out, this will further enhance the market’s appeal and competitiveness through providing more options to participants. So far, the developments that the regulator has communicated to date are all sensible and would add to the initiative.”

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